Ownership and control rights in internet
portal alliances, 1995-1999
Daniel W. Elfenbein and Josh Lerner, 2003
Published in The RAND Journal of Economics
Wonjoon Chung
School of Labor and Employment Relations (LER)
September 18th, 2012
1
About the authors…
• Daniel W. Elfenbein
• Associate Professor of Organization and Strategy
at Washington University at St. Louis
• Ph.D. (Business Economics), Harvard University
• Josh Lerner
• Jacob H. Schiff Professor of Investment Banking
at Harvard University
• Ph.D. (Economics), Harvard University
2
Introduction
• Incomplete-contract model: Central to the modern firm theory
• 2 Incomplete-contract models in the paper
• Grossman-Hart-Moore property-rights framework (GHM model)
: Grossman & Hart (1986) and Hart & Moore, (1990)
• Aghion and Tirole’s (1994) model of contracting for innovations
To examine alliance contracts between Internet portals and other
firms using a contract-theory perspective
• In a new contracting setting: Internet portal industry
• Characteristics of Internet environment fits well with
assumptions of incomplete-contract models
3
Contractual incompleteness and its consequences
• Formal contracts i.e., written
• Incomplete contract due to information conditions
• Incomplete contract by invocation of transaction costs
• Unforeseen contingencies;
• The cost of writing contracts; and
• The cost of enforcing contacts.
• If contracts cannot fully specify the usage of the asset in every
state of the world, then who gets the right to choose?
• Inability to observe effort and enforce agreement: problems
• Property-rights approach?
4
Essence of Property-rights theory
Ownership
Asset
Bargaining
power
Specified
Property
Rights
Ownership
Residual
Property
Rights
When unspecified by contract
• The ownership of an asset: incentive to make asset-specific
investments
• Transferring ownership of an asset: a benefit and a cost
5
Contractual incompleteness and its consequences
• Ex ante allocation of ownership and specified control rights
may not maximize ex post surplus
• e.g., Aghion & Tirole (1994)
• R&D alliance between a research unit and a customer
• Ex ante bargaining power: 2 cases
• Research unit has bargaining power: efficiently allocation, similar
to Grossman & Hart, 1986
• Customer has it: inefficient allocation
• Raised relative bargaining power issue
6
Portal alliances and the contracting environment
• Portals: Internet sites that provides a wide array of services and
linkages to users
• Began operations in 1994, introduction of www
• Benefits from alliances: Portals and partner firms
• Alliance contract for 3 types of assets
• The servers used by the alliances / The uniform resource locator (URL) /
The customer data
• The effort decisions of both parties were likely to have a substantial
impact on the value of the alliance
• Asset ownership (residual control rights) and specified control
rights: similar role based on property right theory
7
Data set and Analysis
• A set of 106 contracts between portals and other firms
between 1995 and 1999 from Recap/IT
• Supplementary financial information from Compustat
and Worldscope
• IVs
• The calendar dates of agreement
• Relative effort required in the alliance (+1 / 0 / -1)
• Traffic on internet properties of portal and partner:
Portal’s sites> Partners’ (a month before the signing of
the agreement)
• Relative financial health of the two parties
• Potential problems:
• Non-independence of the observations; and
• Signalling
8
Results - Ownership
9
Results - controls
10
Conclusion
• To examine how well contract theory explains ownership
and specification of control rights in alliances by internet
portals from 1995 to 1999
• Results support for models of incomplete contracting:
• The division of ownership was sensitive to the
allocation of effort between parties (consistent with
prediction of the GHM Models)
• The allocation of control rights was sensitive to relative
bargaining power of the two parties (consistent with
prediction of the Aghion and Tirole (1994) model)
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Remaining questions
• Other observable measures of performance and effort
• See Elfenbein & Lerner (2002)
• Designing alliance contracts: exclusivity and
contingencies in internet portal alliances
• Two separate theories to explain division of ownership
and control rights – technological consideration
• How bargaining changes under conditions in which both
parties have upward bias in the assessment of the value
of internet traffic
12
Contributions
• An empirical article that explores the influence of
transaction and institutional-level factors on
alliance formation
• Finds empirical evidence that the structure of the
alliance contract provides significant support for
the predictions of incomplete-contract theories
13