rent appropriation and methodological individualism
I am probably most known for my work on rent appropriation from competitive advantages so let me first start with a tight link between that work and Teppo’s work on methodological individualism (I’m sure you’ve already gotten an earful on this ;-).
I cannot consider seriously the notion that rent might accrue to a “firm” – this does not seem to be a meaningful question. Some would, no doubt, argue that this is the central proposition of the strategic management literature. It reminds me of the adage that organizations don’t behave, people do. Thus, within the firm, rent may be appropriated by any of the stakeholders – of which shareholders are but one group. For the most part, theories of competitive advantage do not seek to explain when, specifically, shareholders will appropriate rent. And yet, we would not, by and large, expect to observe rent in measures of organizational performance unless shareholders realize the rent (since the rent would otherwise be appropriated as expenses – before measures of accounting residuals are calculated).
Lately, I have been exploring a much more fundamental question that is closely linked to org theory and the recent discussion here on life cycles. We know that strategic capabilities do not emerge instantaneously. Rather they are developed and acquired over time (see Helfat and Peteraf’s 2003 SMJ article). As such, those stakeholders involved in assembling the capability have time to prepare for its eventual emergence while others are very much in the dark.
This means that rent appropriation activities may often precede the actual generation of rent as parties are organizing and assembling the requisite resources. For example, the organizational form that is selected in which to embed a new capability reflects concerns about the desired rent appropriation regime as well as the efficient governance structure. Indeed, stakeholders regularly make tradeoffs among these factors.
Perhaps an example would be illustrative. Tony Fadell is the entrepreneur who developed the iPod. Haven’t heard of him? There’s good reason. Apple doesn’t want his story to be told. He left his job designing digital audio players for Phillips Consumer electronics to start his own company (Fuse Systems) to develop his idea for a player with a better software interface that worked with an online music store. He chose this form despite the obvious fact that Phillips had valuable complementary assets that could make the vision easier to achieve. Only when he failed to raise sufficient funding did he seek support from Phillips, Realmedia, and finally Apple Computer. When Steve Jobs was very enthusiastic, he asked Fadell to lead the 30 member iPod design team. However, Fadell remained an independent contractor (an externalized transaction) presumably because this gave him added negotiating leverage. Once the project was successful, he renegotiated his employment and has since been promoted to be the Sr VP in charge of the iPod/iPhone division. While his compensation has not been disclosed, between mid 2006 and mid 2008, Fadell sold Apple stock valued at $20,044,924, exercised options valued at $8,891,593, and was granted additional stock options valued at $9,220,000. While this $38M is clearly not all of the compensation he has received for his role in the development of the iPod, it would appear that he has shared in its economic success.
In sum, I would find it hard to tell the story of the emergence of the iPod as though the only organizational design concerns the best way to assemble resources and design efficient (least costly) governance structures. For one thing, there are a number of key stakeholders – efficient for whom? The ultimate organizational form is a negotiated outcome from interested parties. It may not be the ideal for any one stakeholder. Finally, all of this shifts over time (including the organizational form) as the capability lifecycle unfolds over time.
Given this, I would ask, what is the most promising direction for organization theory to develop?
Great first post. Great post, actually.
You said: “The ultimate organizational form is a negotiated outcome from interested parties.” As a game theorist, this seems the natural way to start trying to understand the governance structures of the firm (easy for me to say that after reading your post), but I am a little surprised. Woudln’t this be the common way for org theorists to describe a firm’s inner workings? Pardon my ignorance.
mikemcbride
July 8, 2008 at 4:25 pm
“…stakeholders involved in assembling the capability…”
I like that intuition, nicely bridges both the fact that there are various stakeholders (inside and outside the firm) involved in org capability development, yet it emphasizes and recognizes that there must somehow be an ‘ordering’ of stakeholder importance (in terms of imputation of capability development and associated appropriation of rents) and thus important micro (bargaining etc) considerations are involved.
I know that you are talking about ’stakeholder’ in a somewhat different way (from Freeman, Donaldson, etc — thats one weakness of that stakeholder approach, it does not specify ordering of residuals or decision rights), but actually the links are quite interesting — even to more sociological work (e.g., Brayden’s ASQ piece on protests) — there’s a nice nexus of sorts there.
tf
July 8, 2008 at 4:48 pm
Russ, welcome to orgtheory and I agree, great post! I think there are different ways to investigate the question, how do rents get appropriated within the firm? One way is to look at which groups benefit and under what circumstances. The iPod case is interesting because it’s an enormous amount of wealth and the rent was essentially sucked out of the firm (and away from the shareholders) by an independent contractor. But I’m not sure how typical that is. Barley’s and Kunda’s book about contractors suggests that there’s a lot of variance in how they’re rewarded. Some do well and others just get by. Very few end up millionaires. I have to imagine that the amount of rent appropriation is at least partly determined by something other than the quality of the idea or technology.
Another promising avenue, from an org theory perspective, would be to look at the processes that underlie the rent appropriation. There is a lot of really good work on power and politics in organizations that would have something to say about this. As you mention in your 1999 article (I think), the ability to gain resource leverage (and power) presumably affects the abilities of different stakeholders to appropriate rent.
brayden
July 8, 2008 at 4:50 pm
A quick side note —- at last year’s DRUID conference there was a debate on methodological individualism. Sid Winter (U Penn) and Thorbjørn Knudsen (SDU) argued AGAINST and Nicolai Foss (CBS) and Peter Abell (LSE) argued FOR.
You can watch the debate here: http://www.druid.dk/streaming/ds2007/tirsdag/msh.htm
tf
July 8, 2008 at 5:24 pm
Thanks so much for your quick and thoughtful responses. Let me respond a bit (I’m on jury duty and blogging during a courtroom break).
Mike, I think you are right on target. In essence, I am talking about managing the end game. A natural starting point might be cooperative game theory. However, this assumes all stakeholders have perfect information about the value that would be created in all possible coalitions. A more real-world game would model imperfect information about such contributions where the knowledge asymmetries shift over time. Another difficulty would be adding new stakeholders as the game progresses. It can get unwieldy quickly. Nevertheless, your intuition is correct.
Teppo, it is true I am more interested in a descriptive or positivist version of stakeholder theory. This is not entirely inconsistent with Freeman’s original book. However, the literature has gone more down the normative path…
Brayden, I don’t believe that contractors necessarily appropriate more rent. However, I think Fadell used it to make it clear to Apple that he was still “in play” and could move to a rival. If they wanted him, they had to ante up. I also would not say Fadell sucked up all the wealth. Clearly shareholders have done very well. Its just that we don’t even know how much of the gain went to insiders like Fadell.
russcoff
July 8, 2008 at 7:05 pm
Just thinking out loud — even the normative stakeholder agenda starts from the same perspective — an organization needs to be understood in terms of its stakeholders (really building on resource dependence logic). Specifically, the general ethos of this stakeholder approach is that present governance forms mis-specify how rents get appropriated, e.g., over-imputing results to CEOs and not appropriately imputing org outcomes to other stakeholders such as employees, etc or to the communities in which orgs reside. So, there are some interesting similarities.
tf
July 9, 2008 at 2:18 am
teppo seems to be suggesting that ideology and cultural memes (i.e. expectations about profit shares) can influence the distribution of rents within an entity. this would be an interesting conjunction of org sociology and the resource-based view.
stevphel
July 9, 2008 at 8:50 pm
This ties in pretty closely with Luigi Zingales’ work on the increased importance of human relative to physical capital, and the agency problems resulting from it.
IMO the majority of “organizational capabilities” amount to artificial property rights of one kind or another. Tom Peters’ gushing over the majority of product price being “intellect” is relevant here. The majority of hours we work are to pay rent to the holders of artificial property rights.
My fervent hope is that we’re reaching a singularity where the unenforceability of IP and the ungovernability of human capital cause this portion of commodity price to implode–in which case, we can probably earn enough to pay for labor and materials cost, and other physical costs of production, in a fraction of the present work week.
If the combination of peer design, distributed/networked production, and cheap desktop manufacturing machinery lives up to its promise, the informal, household and barter economies will be making the same challenge to wage labor that was motivated the Enclosures of commons on the eve of the Industrial Revolution, and caused Wakefield’s laments over cheap land in the colonies.
Kevin Carson
July 13, 2008 at 7:00 am