Does Contract Complexity Limit Opportunities? Vertical Organization and Flexibility

The vertical organization of production entails a range of make-or-buy decisions of intermediate goods that are influenced by the difficulty of writing contracts with a potential supplier. When contracting causes high transaction costs, a firm can decide to vertically integrate the production of the intermediate product. Contract complexity can be measured by decomposing the range of inputs into inputs that are traded on an exchange (low contract complexity), inputs for which reference prices exist (low to medium contract complexity) and other, often relationship-specific inputs (medium to high contract complexity). This inaugural lecture addresses the impact of contract complexity on the growth opportunities of a firm. The present value of growth opportunities are embedded in the market value of a firm, which is a multiple of the firm’ stock price. Examining the relation between the growth opportunities as part of the market value and contract complexity, we find that contract complexity has a negative impact on the growth opportunities of a firm if vertical integration is difficult. Whereas, on average, growth opportunities account for 56% of the market value of a firm, this percentage ranges between 50% and 53% for firms in sectors where contracts are complex and vertical integration is difficult. The difference represents a current market value between € 12 bn. and € 24 bn. only taking into account Dutch listed firms.real options;vertical organization;outsourcing;contract theory;flexibility;firm value

Contradiction as a form of contractual incompleteness

A simple model is presented, in which contradictory instructions are viewed as a type of contract incompleteness. The model provides a complexity-based rationale for contradictory instructions. If there are complexity bounds on the contract, there may be an incentive to introduce contradictions, leaving for another agent the task of interpreting them. The optimal amount of contradictions depends on the complexity bound, the conflict of interests with the interpreter, and the institutional constraints on his interpretations. In particular, a higher complexity bound may result in a larger amount of contradictions

Does Contract Complexity Limit Opportunities? Vertical Organization and Flexibility

The vertical organization of production entails a range of make-or-buy decisions of intermediate goods that are influenced by the difficulty of writing contracts with a potential supplier. When contracting causes high transaction costs, a firm can decide to vertically integrate the production of the intermediate product. Contract complexity can be measured by decomposing the range of inputs into inputs that are traded on an exchange (low contract complexity), inputs for which reference prices exist (low to medium contract complexity) and other, often relationship-specific inputs (medium to high contract complexity). This inaugural lecture addresses the impact of contract complexity on the growth opportunities of a firm. The present value of growth opportunities are embedded in the market value of a firm, which is a multiple of the firm’ stock price. Examining the relation between the growth opportunities as part of the market value and contract complexity, we find that contract complexity has a negative impact on

Determinants of Inter-Firm Contractual Relations: A Case of Indian Software Industry

We analyze the impediments to inter-firm contractual relations, existing formal and informal ways of getting around them, especially the role of reputation and trust in mitigating the conflict of interest between the firms. We study it in the context of Indian IT industry. Contract design is specified as a function of reputation (age, repeated contracts and quality certification), asset specificity, complexity and uncertainty. We test the likelihood of observing Time & Material contract, a better propertied contract in the face of uncertainty. Empirical evidence conforms the propositions posited. Reputed firms tend to get highly complicated and uncertain projects. Asset specific investments do not seem to have any implication on contract type and complexity. The results broadly hint that the firms reckon more on creating an understanding through formal quality certifications to solve pre-contractual adverse selection problems and repeated contracting to solve the problems of behavioral uncertainties rather than relying on the court.Transaction Cost; Inter-firm Contractual Relations; Reputation and Outsourcing

Compositional Set Invariance in Network Systems with Assume-Guarantee Contracts

This paper presents an assume-guarantee reasoning approach to the computation of robust invariant sets for network systems. Parameterized signal temporal logic (pSTL) is used to formally describe the behaviors of the subsystems, which we use as the template for the contract. We show that set invariance can be proved with a valid assume-guarantee contract by reasoning about individual subsystems. If a valid assume-guarantee contract with monotonic pSTL template is known, it can be further refined by value iteration. When such a contract is not known, an epigraph method is proposed to solve for a contract that is valid, ---an approach that has linear complexity for a sparse network. A microgrid example is used to demonstrate the proposed method. The simulation result shows that together with control barrier functions, the states of all the subsystems can be bounded inside the individual robust invariant sets.Comment: Submitted to 2019 American Control Conferenc

A multiplexing architecture for mixed-signal CMOS fuzzy controllers

Limits to precision impose limits to the complexity of analog circuits, hence fuzzy analog controllers are usually oriented to fast low-power systems with low-medium complexity. This paper presents a strategy to preserve most of the advantages of an analog implementation, while allowing a marked increment in system complexity.The works in this papaer has been partially funded by the spanish C.I.C.Y.T. under contract TIC96-1392-C02-02 (SIVA

Bounded Rationality and Incomplete Contracts

This paper explores the link between boundedly rational behaviour and incomplete contracts. The bounded rationality of the agents in our world is embodied in a constraint that the contracts they write must be algorithmic in nature. We start with a definition of contract incompleteness that seems both appealing and widely applicable. Our first task is then to show that, by itself, the algorithmic nature of contracts is not enough to generate genuinely incomplete contracts in equilibrium. As in Anderlini and Felli (1994), we call this the Approximation Result. We then consider contractual situations in which the complexity costs of a contract are explicitly taken into accoaunt. We consider a broad (axiomatically defined) class of complexity measures and in this framework we show that incomplete contracts obtain in equilibrium. We also extensively discuss some recent literature directly related to the results reported hereIncomplete contracts, bounded rationality, complexity costs

Competence, specificity and outsourcing: impact on the complexity of the contract

This paper focuses on the link between the three types of specificity and the complexity of outsourcing contracts because specificity is generally considered as the most important transaction cost attribute. It also integrates external uncertainty in the model. External uncertainty is a multidimensional concept that reflects the lack of knowledge about events that may take place in the environmentoutsourcing; transaction cost economics; resource-based view; contracts; partial least squares

Factors affecting rework costs in construction

Rework adversely impacts the performance of building projects. In this study, data were analyzed from 788 construction incidents in 40 Spanish building projects to determine the influence of project and managerial characteristics on rework costs. Finally, regression analysis was used to understand the relationship between the contributing factors, and to determine a model for rework prediction.Interestingly, the rework prediction model showed that only the original contract value (OCV) and the project location in relation to the company’s headquarters contribute to the regression model. The Project type, the Type of organization, the Type of contract and the original contract duration (OCD) which represents the magnitude and complexity of a project, were represented by the OCV. This model for rework prediction based on original project conditions enables strategies to be put in place prior to the start of construction, to minimize uncertainties and reduce the impact on project cost and schedule, and thus improve productivity.Peer ReviewedPostprint (author's final draft