Appropriation of Value from Competitive Advantages
Summary and Keywords
Many discussions of the creation and appropriation of value stop at the firm level. Imperfections in the market allow for a firm to gain competitive advantage, thereby appropriating rents from the market. What has often been overlooked is the continued process of appropriation within firms by parties ranging from shareholders to managers to employees. Porter’s “five forces” model and the resource-based view of the firm laid out the determinants of value creation at the firm level, but it was left to others to explore the onward distribution of that value. Many strategic management and strategic human capital scholars have explored the manner in which employees and managers use their bargaining power vis-à-vis the firm to appropriate value—sometimes in a manner that may not align with the interests of shareholders. In addition, cooperative game theorists provided unique insights into the way in which parties divide firm surplus among each other. Ultimately, the creation of value is merely the beginning of a complex, multiparty process of bargaining and competition for the rights to claim rents.
Overview of Determinants of Value Creation
Value must be created in markets order to be appropriated by firms and, ultimately, individuals. The study of how firms are able to exploit markets to appropriate rents has been viewed through many lenses.
A key theory in the strategic management literature, the resource-based view (RBV), assumes that heterogeneity between firms in an industry exists due to strategic sources of competitive advantage and that these may be sustainable to a degree due to imperfections in their mobility (Barney, 1991). This influential view of the firm, exemplified in the work of Barney, Peteraf, Helfat, and others propose that firms draw upon particular resources in order to create value, and that competitive advantage is a result of, at least partially, interfirm heterogeneity in access to those resources.
According to the RBV, firms with differing resources compete in the same market, with some breaking even and others appropriating rent. The latter are presumably the firms with greater or higher-quality resources and abilities. In the Ricardian model, superior resources are in limited supply, which allows certain firms to earn rents from the market. If the resources from which these “Ricardian rents” are extracted may be expanded or imitated by others, competitive advantage (a.k.a. heterogeneity in performance in the market) will no longer be possible (Peteraf, 1993). Peteraf posits that for competitive advantage to be sustainable, heterogeneity must not simply exist but must also be maintained, primarily through ex-post limits to competition, which may take the form of lack of imitability or substitutability of resources. Imperfect mobility is also a prerequisite of competitive advantage in the resource-based view. When resources are either not valuable or less valuable outside the confines of the firm in question, their mobility is imperfect. The fact that these resources are in some way at least semi-permanently tied to the firm allows them to be a potential source of sustained competitive advantage. The final condition for competitive advantage is the existence of ex ante limits to competition. In essence, there must be a limit to the entrance of parties to a competitive arena, or else all potential market rents will be, as mentioned above, “competed away” (Peteraf, 1993).
Firms draw upon various classes of resources to create value. While an exhaustive categorization of such resources is beyond the scope of this discussion, three broad classes that have been touched upon throughout the literature are physical capital resources, human capital resources, and organizational capital resources (Barney, 1991). While physical capital resources are fairly self-explanatory, the other two classes warrant discussion. Human capital resources are intangible assets, the value of which is crystallized in relationships, tacit knowledge and experience, and other forms skill or experience accumulation (i.e., training, etc.). This differs from organizational capital resources in the sense that although these are also intangible in many ways, they are not accumulated on an individual level but rather on a macro-organizational level. These may include organizational structure, systems (whether formal or otherwise), and relationships among groups or firms. The capital resources of a company are valuable insofar as they may be leveraged for competitive advantage and, more importantly, sustained competitive advantage. In line with the above discussion of imperfect imitability being a prerequisite for a resource to be a source of competitive advantage, human capital resources are perhaps the most likely class of resources to fulfill these requirements (Barney, 1991).
The RBV provides an initial building block in the understanding of the flow of value from markets to individuals within firms. In order to meaningfully discuss the latter (micro) stages of value/rent appropriation, we must first briefly touch upon the competitive forces which allow for the competitive imperfections necessary for resources to become a source of competitive advantage.
Value Capture at the Firm Level—A Porterian Viewpoint
Porter’s seminal “five forces” model of competition and competitive advantage provides a basis for discussion as we move further along the value-appropriation process. As the name suggests, Porter’s model proposed that five forces interacted in order to create (or deny) opportunities for competitive advantage in a market setting. He defined these forces in five categories: the threat of new entrants, the bargaining power of suppliers, the threat of substitute products or services, the bargaining power of consumers, and jockeying for position among current competitors (Porter, 1979). The ability to attain an advantage in a market depends on the considerations that in a truly free market, what you can and cannot do depends on whether it can be emulated, supplied by others, rejected or accepted by end-users, or prevented in the first place by the existing members of the market you wish to enter. A market open to all potential players precludes the possibility of competitive advantage based solely on participation in the market itself. The actions taken in a basic market transaction should in most cases be replicable, allowing new entrants to challenge and equalize any short-term advantage gained.
Thus, as discussed in the RBV, the ability to generate rent in a market via resources is contingent on their having traits that could produce imperfections in competition and, accordingly, competitive advantage. Prior to the advent of the RBV, Barney touched upon the overlap of resource acquisition and competitive advantage in a manner that elucidates Porter’s points on suppliers. Barney (1986) introduced the concept of strategic factor markets—or those markets created by the need for specific resources in order to implement a strategy. This can range from more traditional resources to fulfill a strategic market need to larger scale resources, such as the purchase of other firms to carry out a diversification strategy. In the aforementioned perfectly competitive strategic factor market with perfect information, strategic factors would sell for their exact implementation value. However, differing expectations between the controllers and purchasers of factors would alter this idealistic outcome (Barney, 1986). This provides a corollary to two of the most relevant (for our current purposes) forces proposed by Porter: bargaining power of suppliers and bargaining power of buyers. Where expectations about the value of a resource/strategic factor differ, the bargaining power balance tips in the favor of one party over the other, essentially allowing a resource to be exchanged with a margin of rent. Imagine, for example, a firm intending to acquire a smaller competitor. The buyer may have an internal valuation of the target firm that takes into account information unavailable to the target. Accordingly, the target firm may accept an offer below the buyer’s willingness to pay. Accordingly, value has been created for the buyer.
Many discussions of value would end at this stage, with value having been created and having exited the market. However, value appropriated by a firm in the market has not reached its final destination. Coff defines the firm as a “nexus of contracts,” in line with Jensen and Meckling’s (1976) definition of the firm as a “legal fiction with which factors form contracts,” and extending from this, it is not tenable to treat it as the final destination for generated rent. The following sections will explore the manner in which value is appropriated by individuals within a firm.
Value Capture Among Stakeholders of the Firm
As discussed above, Barney’s work describes the firm as a heterogeneous collection of assets or resources, and in line with this, reiterates the concept explored previously in this paper that any rarity or heterogeneity in resources allows an opportunity for competitive advantage (given that they are valuable, rare, hard to imitate, etc.) (Barney, 1991). However, even if competitive advantage is achieved, the resource-based view and other traditional views assume firm performance and rent generation/appropriation are neatly related. Even the resource-based view assumes that rent is largely generated by knowledge embedded in individuals and networks of individuals. This leads to the understanding that it is unreasonable to assume that these same individuals and networks of individuals cannot leverage their rent-generating capability into rent-appropriating capability and that knowledge resources/assets do not neatly or exclusively generate rent for the “firm,” insofar as they generate a pool of rent appropriable by many parties—including those traditionally associated with “the firm” (Coff, 1999). Milgrom and Roberts defined rent appropriation by employees as when their wage is greater than what is necessary to keep them within the firm (Milgrom & Roberts, 1992). The “firm,” in the traditional sense, only generates rent when all of the involved stakeholders have received their compensation up to the level described by Milgrom and Roberts, that is, to the point where they would not exit the “nexus” in search of some equilibrium level of compensation (Coff, 1999). The tension between firm and individual in rent-seeking behavior lays the groundwork for a discussion of bargaining, one of the most heavily explored topics in the value appropriation literature.
Value Capture: The Bargaining Power Perspective
Bargaining power helps to determine who will be able to appropriate rent up to and beyond their equilibrium point within the nexus. Bargaining power is highest when a group of stakeholders can act in a unified manner, have exclusive or strategically important information, are difficult to replace, and can easily transfer to other firms/nexuses (Coff, 1999).
Brown and colleagues studied the case of physicians, whose accumulated human capital grants them significant bargaining power in health-care organizations. The authors found that physicians in a particular hospital were able to influence the organizational structure of the hospital over time, pushing it toward a series of changes designed to protect their own income from regulatory and environmental changes that could have harmed them. Physicians used structural changes (joint ventures with the hospital, increased contact with external patients) to increase their bargaining power further. Through unified action, specialized knowledge, high replacement costs and ease of mobility, the physicians became uniquely capable of influencing the organization in a way that benefited them (Brown, Gianiodis, & Santoro, 2015). Similarly, Datta and Iskandar-Datta have explored the impact of general and specific human capital on top management compensation, specifically that of CFOs. Due to the strategic nature of the CFO’s role, the authors hypothesized that a “general” suite of skills, as represented by an MBA degree from an elite university, would increase their bargaining value within the firm. They found that indeed such CFOs consistently received greater rents than their specialist (accounting or non- MBA/master’s degree holding) CFO colleagues, in the form of both salary and equity-based forms of compensation, supporting the concept that their unique resources allowed them to bargain more effectively with the firm (Datta & Iskandar-Datta, 2014).
Much of the early value appropriation literature did not provide an in-depth exploration of the bargaining process necessary for parties to take their share of rents. Coff’s (2010) work on bargaining power begins with a discussion of stakeholder knowledge and capabilities as a basis for bargaining power. Stakeholders in this model are those who seek to develop or be involved in a firm’s ability to leverage its resources to particular outcomes—that is, to make use of its capabilities. The value generated by a capability is appropriated by stakeholders in many forms (Coff, 2010).
Just as capabilities evolve throughout their life cycle, so too do the opportunities for various stakeholders to benefit from knowledge asymmetries about said capabilities. Those stakeholders who have greater knowledge earlier in the life cycle of a capability are therefore in a better position to appropriate the value created by the capability. With each distinct stage of capability development come unique bargaining opportunities for players within the firm seeking value.
In the founding stage, the core team pushing for the creation of a new capability has unique leverage to create a rent appropriation regime which favors them. This leads to what Coff refers to as ex ante negotiation over rents, a negotiation stage between parties working together to develop the capability, in which individuals may wish to position themselves to appropriate expected future rents through various forward-looking mechanisms (i.e., stock options or other forms of direct compensation regimes). In the development stage, the search for opportunities for development, recruitment of new talent, or new strategic partners will introduce new parties into a position to appropriate value from the capability. Thus, development is a process that may increase value generation at the cost of creating new (and potentially powerful) players at the bargaining table for said value. This is an ideal example of the dilemma faced by firms (or rather, firm decision makers) with regard to value appropriation. At maturity, attempts to fend off the erosion of advantage by competitors may lead the firm to share strategic capability information via commercialization or efforts to expand end-user understanding. Key individuals may be in greater demand across firms in the maturity stage, allowing them greater negotiating ability within the focal firm and greater opportunities for turnover. In this stage bargaining is volatile, as the value appropriable from the capability may appear to be near depleted in its current form (this is evidenced by opportunity cost decisions which increasingly result in individuals leaving the nexus of the firm). The capability life cycle ends with efforts to extend or reshape the capability. This may take many forms, but in general such strategies will almost always result in the addition of new stakeholders and additional value appropriation negotiation (Coff, 2010).
Throughout the stages explored above, the bargaining power of individuals changes in tandem with capability formation, development, and maturity, as a differing set of circumstances and opportunity costs shapes the boundaries of the negotiations between individuals and their firm for the value generated by capabilities. In each of these stages, the ability of a group within the nexus to gain competitive advantage in its rent appropriation is limited. Stakeholders often cannot always act in a unified manner, they may lack access to the information flows necessary, and individuals may have high costs for exiting the firm, making any such threats unrealistic (Coff, 1999). This is especially likely among professional employees, who are unlikely to be members of a union that would give them the kind of unitary acting power necessary to extract significant rent, and the nature whose work may keep them separate from truly core knowledge. They may, in this case, be unable to generate specific enough human assets to again competitive advantage within the nexus. They also may lack a clear authority structure, which again makes it difficult to pose a united front when bargaining for greater rent. Imagine, for example, a team of employees within a firm. They may, separately and collectively, feel entitled to appropriate a greater portion of the value they create for the firm. However, a number of challenges face any effort to do so. As mentioned above, they may have limited formal opportunities to engage in bargaining, either collective or individual. It may be difficult to clarify the individual contributions of employees, due to problems of collective effort and monitoring (Alchian & Demsetz, 1972). In addition, unless the individual is in a unique position, their skills may not be core enough to the firm to prevent the it from simply looking to the market for a cheaper alternative (Lepak & Snell, 1999).
Management, however, are unique. Managers who oversee the technical core of knowledge within the organization and monitor those employees with access to such knowledge are in a unique position to either successfully plug themselves into the tacit knowledge around which they can build competitive advantage, or effectively lock themselves out by failing to gain sufficient understanding (Coff, 1999). In addition, while employees lack the clear authority to negotiate in an organized manner or from a position of strength, managers are defined by a hierarchical leadership role and are naturally aligned with one another in a managerial class (Coff, 1999). The combination of these traits makes managers a uniquely powerful party in terms of rent appropriation, and a cursory look at discussions of upper management and executive compensation show that this has not remained a scholarly debate. Castanias and Helfat (1991) specifically explored the bargaining power held by members of management and board members as well as the risks (or lack thereof) arising from it. Agency theory (specifically, the seminal works by Jensen and Meckling) has set out a framework in which there is no guarantee of conflict; however, principals and agents, if they behave in a profit-maximizing manner, will eventually have non-aligning best interests. This could produce a case such as that discussed by Coff in the formative stages of a capability; managers may have the ability (and the motivation) to shape firm policy in such a way as to maximize their rent appropriation, even at the expense of the well-being of the firm. Castanias and Helfat argue that this ought not to be the case—that rather than an agentic, self-interested role, managers may act in a manner that produces such “managerial rents” to the benefit of diffuse shareholders (shareholders being in many ways a proxy for the intangible “firm”) (Castanias & Helfat, 1991). Specifically, one can imagine a scenario in which managers’ interests are closely aligned enough with those of shareholders that their “self-interested” application of their managerial skills would broadly generate rents for the firm, rather than merely for their own benefit (even if, through incentive alignment, they would also directly benefit from their actions). Yet, the bargaining process remains relevant regardless of the outcome.
Shareholders differ from management in that they are characterized by the investment capital contributed and, in some cases, the risk borne. The diffuse nature of shareholders dilutes their bargaining power as well as their rare nature as a resource. Concentration of ownership among a small group of shareholders can severely limit the ability of single shareholders or coalitions of minority shareholders to influence the firm in such a way as to extract additional rents from it. While there are exceptions to the stereotype of the passive shareholder with little influence on managers—the continuing popular discussion regarding the role of activist shareholders being one example (Anabtawi & Stout, 2008)—it remains the norm that managers are closer to decisions of value distribution and appropriation than shareholders. As such, managers, to the extent that they control rents, will provide the minimum possible rent to diffuse investors (the “market cost” of their investment capital). Ultimately in the model suggested by Castanias and Helfat, self-interest still drives individuals’ decisions, but a series of incentives prevents significant hold-ups (Castanias & Helfat, 1991). Coff’s work supports that of Castanias and Helfat in this regard. He states that investors, despite having a clear right to residuals, have a uniquely weak right to rent generated (Coff, 1999). The assets they are entitled to are often balance sheet assets: while these assets are important, they are often not nearly as important as the knowledge assets that are “owned” by employees and management. They lack the direct link to information flows that within firm parties enjoy, relying on managers (in this context, their direct competitors) for understanding of the rent and its sources, as well as generally lacking unifying characteristics and structures (Coff, 1999).
Value Capture: Strategic Human Capital and Firm Specificity
In the light of the resource-based view and literature on the bargaining power of individuals in organizations, it may be worthwhile to more closely examine the nature of the resources individuals control that give them the ability to appropriate value from the firm. Many organizational sociologists have explored the concept of asset-specificity, arrangements that provide some parties leverage for “hold-ups” due to the rarity or specific nature of the assets they hold (Klein, Crawford, & Alchian, 1978). The issue arises only when “idiosyncratic” items are in question (Williamson, 1981). Literature on the specificity of human capital assets has focused in many instances on either the development or allocation of these assets.
Firm specific human capital has discussed by several scholars as the individual skills, cognitive resources, and other personal abilities the value of which is limited outside of the environment of a particular firm (Coff, 1997; Kor & Leblebici, 2005). This limited external value has been conceptualized as a potential foil to employee’s mobility, as the nature of their skills may result in the perception of lower value at other firms in comparison to their current one (Becker, 1993; Hashimoto, 1981). This has been supported by studies indicating that job candidates who exhibited general human capital traits were higher paid than their firm-specific competitors (Bidwell, 2011).
The development of human capital assets is a path-dependent process, with skills taking on the idiosyncratic nature of the firm environment in which they are developed (see also Grant, 1996; Penrose 1959). The acquisition and development of specific human capital is often seen as a potential significant source of competitive advantage for a firm. Hatch and Dyer (2004) point out that “firms that are superior at acquiring, developing, and deploying human capital enjoy sustained advantages in learning and ultimately cost.” The greater the specificity of an individuals’ skills, the more unique their contribution to the firm becomes. While firm specific human capital is often viewed positively, stakeholders with significant influence may extract additional rents from a firm (above and beyond the market price for their services) (Crook, Ketchen, Combs, & Todd, 2008). Although firms may seek efficiency when allocating human capital to productive endeavors, the owners of human capital may influence this allocation based on their own perceived needs. The ability to do so may be elevated in those individuals with firm-specific human capital, and the firms reliance on such human assets will to some extent determine its vulnerability to the detrimental effects of such actions (Chatain & Meyer-Doyle, 2017). The owners of firm-specific human capital are less likely to be able to negotiate outside of the firm due to the very nature of their skills and investments and are therefore more likely to seek additional value by appropriating it internally.
On the other hand, employees who make firm specific skill or knowledge investments open themselves up to the threat of opportunistic behaviors on the part of the firm. This necessitates efforts on the part of employees to protect themselves from the risk of having rent extracted from them by the organization, and efforts on the part of employers to provide sufficient comfort to employees so that they will be willing to make firm specific investments (Wang & Barney, 2006). The employee is faced with a risk-reward dilemma, weighing the payoff of firm specific and general investments against the risks of each in order to achieve what they view to be their ideal maximum utility. Wang and Barney propose a model in which an increase in firm specific investments by employers increases the rent-generating capability of the underlying firm resource, and a decrease in the value of the resource decreases value appropriative capacity of the employee via firm specific investments, driving both parties to negotiate.
Given the difficulties inherent in developing and allocating firm specific human capital, several studies have focused on the ways in which to manage and understand the impacts of this sometimes volatile resource. It may be presumed that incentivization of certain actions within an organization, as Castanias and Helfat proposed, may effectively manage human behavior when the individuals in question have highly specific or high-quality human capital. However, Frank and Obloj argue that incentivization may in fact create avenues for or encouragement to behave in a self-interested manner for individuals in control of important human capital assets. The greater the human capital embodied in an individual or team, the more potential they have to generate rents; however, at the same time, this same human capital increases their ability to take advantage of incentive systems that would allow them to appropriate that rent (Frank & Obloj, 2013). Therefore a scenario may arise where greater general outcomes are achieved by highly skilled managers/employees, but their ability to siphon off the fruits of their labor in various forms ultimately decreases the firm level rent (Frank & Obloj, 2013). Those employees with a greater capacity for learning this “game,” as Frank and Obloj refer to it, are capable of quickly increasing their appropriated rent.
Other early-21st-century works have questioned the actual awareness of firm specific human capital exhibited by market players and hence called into question its impact on bargaining for rent. Individuals and firms may not even consider firm specificity as much as theory implies, as evidenced by studies showing that individuals who suffer the greatest drops in performance after moving from one firm to another are those who were most willing to move in the first place. The literature on star employees has consistently illustrated that high performers suffer a dip in performance (sometimes long term) when they change firms (Groysberg, Lee, & Nanda, 2008; Groysberg, Nanda, & Nohria, 2004). Although there are many potential explanations for the performance drop-off, it may be that hiring firms are, by definition, unaware of the firm-specific complementary assets that stars took advantage of in their previous employment. This would allow the stars to be more mobile than their “mobile value” would otherwise allow. Hindrance of mobility tends to occur only when employees are aware of the specificity of their skills and are less likely to search for other opportunities, the employer rewards specific skills, and competitors only offer compensation for general human capital (Coff & Raffiee, 2015). Thus, there are some boundary conditions on the impact of asset specificity, driven by balances between opportunity cost and the bargaining power. Firm specific human capital isolates employees, making them less likely to leave the firm. However, when employees have significant general human capital and competitors have complementary assets to their skills, the limiting power of firm specific human capital may be minor (Campbell, Coff, & Kryscynski, 2012).
The bargaining power perspective has been in some respect the dominant one in the strategic management literature. Exploring concepts of negotiation and opportunity cost, often in light of the precepts of the borderline paradigmatic resource based view, it has provided significant amounts of meaningful insights into the complex patterns of value appropriation within firms. With that said, other viewpoints and literatures provide additional and unique input into this discussion. In discussing the traditional economic viewpoints surrounding value, Lippman and Rumelt (2003) stated that “cooperative game theory (CGT) provides a valuable alternative perspective . . .[it] separates the issues of opportunity cost, value, and the distribution of rents [and] replaces the conceptual looseness surrounding the economic profit concept with a formal system in which surplus is known, but its division is subject to negotiation.”
Value Capture: Cooperative Game Theory Perspective
The CGT Framework
Cooperative game theory provides a different, if not wholly dissimilar, theoretical lens through which to view the value appropriation problem. Cooperative game theory views the firm as an environment in which the bargaining power of an individual in a particular network depends on the value of their resources to other individuals or “players” (a group of which is a “coalition”). The “value function” of a network or firm in a cooperative game is the optimal use of the resources and access of each coalition (Roson & Hubert, 2015). An individual or coalition’s bargaining power relies on what value other players may be able to appropriate in their absence. If the absence of the player will decrease the rent available for appropriation to other players, the original player will have leverage in bargaining (Roson & Hubert, 2015). Although this framework uses some unique terminology, it is apparent almost immediately that the main concepts—bargaining power, the opportunity cost of various players, and the acquisition of value from a closed environment (the firm)—are shared with the literature discussed above.
Lippman and Rumelt have also proposed the “payments perspective,” which holds that all revenues a firm collects are payments to specific resources, whether tangible or intangible. Using CGT, they view the firm as a “bundle of resources,” with resources being “co-specialized” and existing within the legal fiction of the firm rather than being “firm-specific” per se. A resource may be a traditional resource or the skills and know-how of an employee. The payments received are then the rent appropriated by that resource. Again, the parallels with the resource-based view are apparent. In this context, CGT provides a framework in which one may understand what payments can be commanded by each resource, what the addition of new resources may do the structure and volume of such payments (or possible payments), and how a restructuring of the resources into (different or additional) coalitions might generate additional rent. The basis of an individual’s bargaining power is that their “price,” or rent appropriated, will be somewhere in the interval between the minimum amount to keep them from leaving the firm and the maximum amount that the firm can afford to pay. CGT essentially provides a framework in which all surplus generated by a firm or a market is claimed by one player or another, making the question not how much surplus remains but rather how much surplus is taken by each player en route to zero (Lippman & Rumelt, 2003).
This is not to say that there are not significant departures from the assumptions of the resource-based view, or ignorance of that literature. MacDonald and Ryall (2004) argued that the determinants of competitive advantage commonly set out in the strategy literature by influential authors such as Porter and Barney (rarity, inimitability, value of resources), while potentially useful, are not necessary nor sufficient for the achievement of competitive advantage. They propose that in a market with one buyer, a firm with theoretically valuable resources is still valueless without the actions of the buyer. Any value the firm appropriates will be a result of bargaining between the two parties and not due to the nature of their resources alone. Their model introduces both explicit questions about other value appropriation models and the elsewhere unexplored concept of perceived value. Where a player can receive some level of rent greater than zero in all of their potential feasible and stable distributions (appropriations) from the game, they are said to have competitive advantage. This necessarily depends on the appropriative options of other players in the market—more succinctly, it depends on the opportunity costs of other players (MacDonald & Ryall, 2004). The competitive advantage picture becomes even murkier when the pool of competitors under discussion is brought into question. Chatain (2011) claimed that firms may engage in “client-specific value creation,” in which custom services or products are directed at a particular client that would not be equally valuable to other clients. When the opportunities to create client-specific value are high, competition is necessarily curtailed, and relevant competitors limited to potential suppliers of a certain buyer’s specific needs. Heterogeneity in firm performance then may not be, as the resource-based view suggests, entirely a question of capability differences but a more nuanced question of relevant competition across markets.
Change in Appropriation Patterns Over Time
Regardless of the theoretical lens through which it is viewed, value appropriation by stakeholders (whether shareholders, managers, or employees) is not a static event, in direction or in magnitude. Other stakeholders, such as customers in a competitive, high-tech industry, may be absorbing most of the value created. Thus, a dynamic situation where value creation is growing may appear to be a stagnant one under traditional measures as the firm’s share of value (traditional measures such as net profit, for example) may not be significantly changed. In addition, more delicate appropriation questions go unanswered using measures such as profit or returns to stockholders (including dividends and capital gains). Discussions of rent appropriation have often been static, failing to recognize the dynamic processes of bargaining and shifting informational asymmetries within a firm. Patterns of rent appropriation evolve alongside firm capabilities, which are informed by stakeholders changing roles in the process of capability development across the life cycle (Coff, 2010). Insofar as bargaining power is derived from position and knowledge, and these things are constantly shifting, it is apparent then that bargaining power (and the ensuing structure of rent appropriation) must also shift. Several forces may alter existing knowledge asymmetries; internal competition, the codification of tacit knowledge, or learning curve effects (Coff, 2010). All of these forces are notable for being dynamic, and their absence at any particular stage in the process of capability development does not preclude the emergence.
Lieberman and Balasubramanian (2005) gave the example of General Motors’ 10% returns to stockholders in a period when relevant stock indices grew by 14%. The question of the loss of 4% in comparison to the index could be answered by different distributions of rent generated (i.e., stakeholders other than stock owners appropriated the value) or by a simple failure to generate enough value. Accordingly, understanding appropriation patterns may influence policy and strategy in a significant way. Lieberman and Balasubramanian propose that value generated is equal to the marginal increase in a firm’s efficiency of using resources: in their 2005 study, they attempted to empirically measure “value appropriation” as a construct by exploiting the accounting concept of revenue being equivalent to all payments made to stakeholders. In traditional (neo-classical) economic thought, value creation is either a supplier or consumer side surplus, and as circumstances change (such as firm size, technology, or customer willingness to pay) value creation shifts. Thus, value appropriation, as a function of value creation, is a dynamic construct that changes with developments in industry and in the economy at large. Such changes as increased consumer demand, requirements for increased wages to employees or greater executive compensation might drastically alter the value appropriation pattern within a firm (Lieberman & Balasubramanian, 2005).
In a similar growth from neo-classical thought, Garcia-Castro and Aguilera (2015) reconsidered the viewpoint that the only relevant stakeholders were the “firm” (i.e., the investors or shareholders) and the end consumer. This view presumed that the generated rent was the surplus in this simple equation. Garcia-Castro and Aguilera introduced in their 2015 taxonomy of rent generation and appropriation a concept of “value creation elasticity of stakeholder appropriation,” which was meant to indicate a difference between the value appropriated by stakeholders and that which is generated over time—thereby inserting the necessary “gap” to account for appropriation in general. Garcia-Castro and Aguilar’s model redefines “firm appropriated value” as the value appropriated by those who have provided capital to the firm, and it includes information about employee/manager numbers and wages, opening a much-needed space to account for a dynamic view of value appropriation patterns over time.
Directions for Research
This chapter has explored much of the past and current discussion surrounding value appropriation. This is by no means exhaustive, nor is it representative of the end point of this particular stream of research. Below we explore only a few of the potential future directions for research on this topic.
Extending Bargaining Power Frameworks—Porter and Beyond
We have explored here the Porterian “five forces” framework, one of the cornerstones of discussions of value appropriation and of the strategy literature in general. In this framework, competitive advantage may be achieved by various parties based on their power—the power of suppliers, the power of buyers, etc. Much of the discussion extending from this framework has addressed this leveraging of bargaining power of other parties at a macro level (in keeping with the spirit of Porter’s original framing of these forces). However, little has been said with regard to the micro level. One may explore the mechanisms and interactions within firms where such bargaining power–based interactions are taking place rather than focusing on the broader “overall market,” firm-based approach.
Similarly, later studies that have explicitly discussed bargaining power (such as Coff’s, 1999 and 2010 works, and Castanias & Helfat, 1991 discussed above in the section “Value Capture: The Bargaining Power Perspective”) could be developed to further understand the ambiguity underlying causal mechanisms of individual bargaining power within firms. Brown et al. (2015) and Datta and Datta (2014) are examples of a potential trend of empirical studies attempting to disambiguate these mechanisms. Further work may involve laboratory experiments, which may allow us to control for some of the confounding variables which have complicated efforts to determine causality in this field, such as the difficulties of parsing individual effort and bargaining power from the effects of team productivity. The question of individual versus team value creation (and value appropriation) is one which also makes the use of sports datasets attractive, due to the relative ease with which individual players’ achievements and negotiation can be differentiated from those of their peers. Some studies such as Moliterno and Wiersema (2007) have put such data sets to good use.
Firm Specificity, Perception, and Information Asymmetries
The concept of firm specificity of human capital is core to many discussions of bargaining for value within firms. However, firm-specific human capital is often conflated with tacit knowledge and skill, resulting in objective measures such as tenure being used as a proxy in order to study the effects (constraints on mobility, etc.), which are theorized to go along with the development of such assets. This stream of research, while valuable, ignores a potentially significant error in logic: if firm specific human capital is tacit and unobservable, how do “information asymmetries” arise between employees and firms (both the current employer and other potential employers) when firms also cannot observe and assess tacit traits? What force then causes the constraints proposed in the literature? Perhaps a more consistent viewpoint would be one which treats perceptions as the key to these behavioral implications. This would lead to valuable discussions about how both individuals and firms manipulate perceptions in order to increase bargaining power and alter mobility, as well as the ways in which firms may achieve (or lose) competitive advantage based on their management of employee perceptions of specificity.
Synthesizing Cooperative Game Theory and Bargaining Power Discussions
CGT literature has provided a number of valuable insights into the process of value appropriation via the rigor of formal modeling. As in any literature with a significant amount of formal modeling underlying its theory, there remains space for new insights via the relaxing of certain restrictive assumptions built into these models. For example, many models in the CGT literature limit the number of employees and firms in a market to a token amount for simplicity, or presume perfect information among a certain class of market players. The altering or elimination of these limitations may provide further insights into the functioning of actual “cooperative games.”
The intersection between CGT and more traditionally strategy-centered discussions of bargaining power is an area with significant potential for further research. As above, certain assumptions are made in the CGT literature—a model may indicate a bargaining range, whether formed by perfect or asymmetric information, and the final outcome of appropriation falls within it. This literature does not, however, in many instances, explore the mechanism of the bargaining process or the details of individual players’ opportunity cost. Bringing these concepts into the CGT literature, either in a purely theoretical manner or as a set of assumptions in an empirical model, would provide valuable insights into the complex bargaining process.
Changes in Appropriation Patterns—Shocks, Competitive Dynamics, and Intersections with Other Theories
The literature on changes in appropriation patterns is a fairly new direction for research. Building upon some of the time-elements mentioned by Coff (2010) and Garcia-Castro and Aguilar (2015), valuable research remains to be done with regard to the effect of various exogenous shocks on appropriate models over time. Although some attention has been paid to the path-dependent progression of appropriation patterns in line with various changes within the firm and with regard to related sources of value, unique exogenous shocks such as changes in the market, new competitors, and other such events may provide further insight into the dynamic nature of appropriation patterns.
The nature of these patterns and their impact on firm performance also remains to be studied. Few scholars have theorized on the effect of various patterns of appropriation, with only a basic economic assumption that appropriation by employees is a form of firm inefficiency. Empirical studies of different types of appropriation patterns (those which heavily favor employees, managers, or shareholders, respectively) would help to provide clarity with regard to causal mechanisms driving increases or decreases in firm performance. Heavily regulated industries such as the airline industry are fertile ground for such studies, specifically explorations of the secondary effects of employee appropriation such as signaling and motivation.
Again, the intersections between these schools of thoughts also provide space for meaningful discussion. Given observable changes in appropriation patterns, literature on the subject has not deeply explored the microfoundations of these changes. As appropriation shifts, is it driven by employee bargaining? Is the story linked to questions about perceptions of specific and general human capital? What role do members of upper management play in strategic decisions about rent allocation? Each of these questions opens up a rich path of investigation.
Demand-based strategy is a field that has not been touched upon in depth here but that stands as a potentially fruitful direction for further value appropriation research. Adner (2002) discussed disruptive technology and was an early work in demand-based strategy: in this theoretical framework, rather than focusing solely on the interplay between competing firms and employees, the focus shifts to consumers and whether they are end users or other corporate entities. Customer satisfaction and purchase is, essentially, a value proposition. Consumers will not purchase a good or service unless they consider the transaction to be one in which they gain value. Aside from Adner, Priem and Butler (2001), which criticized what they viewed as the one-sided focus of the RBV, led to a more fully formed discussion of consumer focused value creation some years later (Priem, 2007).
What does this mean for the literature on value appropriation? For one, the pool of parties under discussion expands in a meaningful way. Similar to the comments on changes in appropriation patterns above, different directions of appropriation may also result in different effects on firm performance. Traditionally ignored measures of performance in strategy such as reputation could be used in order to gain a broader understanding of the role of consumers in the value appropriation equation. The RBV and Porterian conceptualizations of the manner in which value is created and divided may, in light of such studies, be incomplete.
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