First Look

First Look summarizes new working papers, case studies, and publications produced by Harvard Business School faculty. Readers receive early knowledge of cutting-edge ideas before they enter the mainstream of business practice. For complete details on faculty research, see our Working Papers section.

January 29, 2008

The itch to start a business is contagious. New research shows that if your colleagues have been entrepreneurs you too may be more likely to go into business for yourself. In "Peer Effects and Entrepreneurship," a working paper available for download, HBS professor Ramana Nanda and Stanford professor Jesper B. Sørensen illustrate exactly how social ties play into decisions toward entrepreneurship. According to Nanda and Sørensen, "the career experiences of co-workers shape both the information and resources available to prospective entrepreneurs, as well as the value that individuals attach to entrepreneurial activity as a career choice."

An additional working paper for download by Nanda describes the relationship between personal wealth and the entrepreneurial impulse, and the attendant policy implications. Should policymakers stoke entrepreneurship in any given region by providing cheap credit for new ventures? Not necessarily, as explained in his paper, "Cost of External Finance and Selection into Entrepreneurship."

This week also sees faculty articles in Harvard Business Review, a book chapter on life-cycle funds, and a case study on developing a car in India; and lots more.

 

Working Papers

Product Development and Learning in Project Teams: The Challenges Are the Benefits

Abstract

The value of teams in new product development (NPD) is undeniable. Both the interdisciplinary nature of the work and industry trends necessitate that professionals from different functions work together on development projects to create the highest-quality product in the shortest time. Understanding the conditions that facilitate teamwork has been a pursuit of researchers for nearly a half-century. We review existing literature on teams and team learning, in organizational behavior, and technology and innovation to offer insights for research on new product development teams. Building on prior work, we summarize the organizational benefits of NPD teams, and identify five attributes of these teams that hinder attainment of their potential: (1) project complexity, (2) cross-functionality, (3) temporary membership, (4) fluid team boundaries and (5) embeddedness in organizational structures. We argue that effective management of these five attributes allows not only organization-level benefits, but also team-level benefits in the form of new capabilities and team-member resilience. We then highlight the critical roles of leadership and of communication and conflict management training as strategies for overcoming the challenges to team effectiveness in NPD, as well as for realizing five team benefits: (1) project management skills, (2) broad perspective, (3) teaming skills, (4) expanded social network, and (5) boundary-spanning skills. We conclude with a discussion of the implications of our ideas for conducting future team research.

Board of Directors' Responsiveness to Shareholders: Evidence from Shareholder Proposals

Abstract

We document the frequency of implementation of non-binding, majority-vote (MV) shareholder proposals and analyze the determinants and consequences of Boards' decisions to implement them. Using a sample of 620 shareholder proposals that received a MV between 1997 and 2004, we find that the frequency of implementation has almost doubled from 22% between 1997 and 2002 to 41% in 2003-2004. With respect to the determinants of the implementation decision, we find a positive relation between shareholder pressure and the likelihood of implementation, while traditional governance indicators do not seem to play a key role. In particular, the likelihood of implementation is increasing in the percentage of votes cast in favor of the proposal and in the ownership and influence of the proponent. Also, targeted firms are more likely to implement MV proposals after industry-peer firms implement a similar proposal. Finally, proposals aimed at removing anti-takeover measures or instituting certain shareholder rights are more likely to be implemented. With respect to the consequences of the implementation decision, we find that outside directors implementing MV shareholder proposals reap the benefits of their responsiveness in the directors market through a higher likelihood of retaining their Board seat and a higher increase (or lower decrease) in the number of other directorships held.

Download the paper: http://www.hbs.edu/research/pdf/08-048.pdf

The Private Equity Advantage: Leveraged Buyout Firms and Relationship Banking

Abstract

This paper examines the impact of leveraged buyout firms' bank relationships on the terms of their syndicated loans. Using a DealScan sample of 1,582 loans financing private equity-sponsored leveraged buyouts between 1993 and 2005, we find that bank relationships explain cross-sectional variation in the loan interest rate and covenant structure. Our results indicate that two channels allow leveraged buyouts sponsored by private equity firms to receive favorable loan terms. First, bank relationships formed through repeated transactions reduce inefficiencies from information asymmetry between the lender and the leveraged buyout firm. Second, banks price loans to cross-sell other fee business. These effects are additive. A one standard-deviation increase in both bank-relationship strength and cross-selling potential is associated with a 16 basis point (5%) decrease in spread and a 0.4 point (7%) increase in the Maximum debt to EBITDA covenant. This translates approximately to a 4 percentage point increase in equity return to the leveraged buyout firm. To the best of our knowledge, this is the first paper to analyze the importance of leveraged buyout firms' bank relationships and provide evidence for leveraged buyout firms' favorable leverage terms.

Institutional Stock Trading on Loan Market Information

Abstract

Over the past decade, one of the most important developments in the corporate loan market has been the increasing participation of institutional investors in lending syndicates. As lenders, institutional investors routinely receive private information about borrowers. However, most of these investors also trade in public securities. This leads to a controversial question: do institutional investors use private information received in the loan market to trade in public securities? In this paper, we examine the stock trading of institutional investors that also hold loans in their portfolio. Specifically, we look at the abnormal returns on stock trades following loan renegotiations. By collecting SEC filings of loan amendments, we are able to identify institutional investors that had access to private information disclosed by the borrower during loan renegotiations. Our results indicate that institutional managers that participate in loan renegotiations consequently trade in stock of the same company and outperform other managers by approximately 8.8% in annualized terms in the month following loan renegotiation.

Cost of External Finance and Selection into Entrepreneurship

Abstract

This paper examines the extent to which the positive relationship between personal wealth and entry into entrepreneurship is due to financing constraints. I exploit a tax reform and use unique micro-data from Denmark to study how exogenous changes in the cost of external finance shape both the probability of entering entrepreneurship and the characteristics of those who become entrepreneurs. As expected, differences-in-differences estimates show that the entry rates for individuals who faced an increase in the cost of finance fell by 40% relative to those whose cost of external finance was unchanged. However, while some of the fall in entry was due to less wealthy individuals with high human capital (confirming the presence of financing constraints), the greatest relative decline in entry came from individuals with lower human capital, many of whom were above median wealth. This finding suggests that an important part of the positive relationship between personal wealth and entrepreneurship may be driven by the fact that wealthy individuals with lower ability can start new businesses because they are less likely to face the disciplining effect of external finance.

Download the paper: http://www.hbs.edu/research/pdf/08-047.pdf

Peer Effects and Entrepreneurship

Abstract

We examine whether the likelihood of entrepreneurial activity depends on the prior career experiences of an individual's co-workers. We argue that peers may increase an individual's likelihood of becoming an entrepreneur through two channels: by increasing the likelihood that an individual will perceive entrepreneurial opportunities, and by increasing his or her willingness to pursue those opportunities. Our analysis uses a unique panel dataset that allows us to track the career histories of individuals across firms. We find that an individual is more likely to become an entrepreneur if his or her co-workers have been entrepreneurs before, or if the co-workers' careers involved frequent movement between firms. Peer influences appear to be substitutes for direct experience: the effects are strongest for those without exposure to entrepreneurship in their family of origin, and for those who have engaged in little inter-firm mobility themselves. These effects are robust to attempts to address concerns about unobserved heterogeneity bias.

Download the paper: http://www.hbs.edu/research/pdf/08-051.pdf

 

Cases & Course Materials

Tata Motors: The Tata Ace

Harvard Business School Case 108-011

Considers the strategy and experience of Tata Motors, India's leading commercial truck maker, as it developed a new small commercial vehicle, the Tata Ace. Positioned as a replacement for the three-wheelers that predominated as small commercial vehicles in India, the Ace create a new product category and enabled Tata Motors to access a new market segment. The company adopted tailored approaches to product design, distribution, marketing, service, and sourcing for the vehicle. After successfully targeting the niche, considers how Tata Motors might grow its presence in the segment with new models, enter new regional markets, export to developing or developed countries, and face new competition.

Purchase this case:
http://www.hbsp.harvard.edu/b01/en/common/item_detail.jhtml?id=108011

 

Publications

Overcoming the Saving Slump: How to Increase the Effectiveness of Financial Education and Saving Programs

No abstract is available at this time.

When Professionals Have to Lead: A New Model for High Performance

Abstract

For too long, professional services firms (PSFs) have relied on the "producer-manager" model, which works well in uncomplicated business environments. However, today's managing directors must balance conflicting roles, more demanding clients, tougher competitors, and associates with higher expectations of partners at all levels. "Integrated Leadership in Professional Services Firms" presents an overarching framework better suited to such complexity. It identifies the four critical activities for effective PSF leadership: setting strategic direction, securing commitment to this direction, facilitating execution, and setting a personal example. Through examples from consulting practices, accounting firms, investment banks, and other professional service organizations, industry veterans DeLong, Gabarro, and Lees show how this model works to: align your firm's culture and key organizational components; satisfy your clients' needs without sacrificing essential managerial responsibilities; and address matters of size, scale, and complexity while maintaining the qualities that make professional services firms unique. A valuable new resource, this book redefines the role of leadership in professional services firms.

Innovation Killers: How Financial Tools Destroy Your Capacity to Do New Things

Abstract

Most companies aren't half as innovative as their senior executives want them to be (or as their marketing claims suggest they are). What's stifling innovation? There are plenty of usual suspects, but the authors finger three financial tools as key accomplices. Discounted cash flow and net present value, as commonly used, underestimate the real returns and benefits of proceeding with an investment. Most executives compare the cash flows from innovation against the default scenario of doing nothing, assuming—incorrectly—that the present health of the company will persist indefinitely if the investment is not made. In most situations, however, competitors' sustaining and disruptive investments over time result in deterioration of financial performance. Fixed- and sunk-cost conventional wisdom confers an unfair advantage on challengers and shackles incumbent firms that attempt to respond to an attack. Executives in established companies, bemoaning the expense of building new brands and developing new sales and distribution channels, seek instead to leverage their existing brands and structures. Entrants, in contrast, simply create new ones. The problem for the incumbent isn't that the challenger can spend more; it's that the challenger is spared the dilemma of having to choose between full-cost and marginal-cost options. The emphasis on short-term earnings per share as the primary driver of share price, and hence shareholder value creation, acts to restrict investments in innovative long-term growth opportunities. These are not bad tools and concepts in and of themselves, but the way they are used to evaluate investments creates a systematic bias against successful innovation. The authors recommend alternative methods that can help managers innovate with a much more astute eye for future value.

Why Mentoring Matters in a Hypercompetitive World

Abstract

Professional service firms (PSFs), like so many other companies, are juggling the modern challenges of global competition, increased regulation, and rapid employee turnover. In a people-oriented industry, attrition has special import. DeLong and Gabarro, of Harvard Business School, along with former Morgan Stanley and Ernst & Young executive Lees, argue that a PSF can gain a much-needed competitive edge by renewing its focus on mentoring. The authors' in-depth interviews with professionals from more than 30 PSFs have yielded four principles for firms to heed as they rediscover this lost art. First, mentoring is personal. Rather than relying on standardized programs, mentors must frequently—and fairly—provide authentic advice and nurturing. Partners at PSFs know how to use their ample people skills effectively with clients; the benefits of using them with junior colleagues are even greater. Second, not everyone is an A player. A small dose of attention given to a B player goes at least as far as a large one offered to an A player. Since B players constitute about 70% of PSF staff, that's time well spent. Third, choice assignments are in short supply, which limits the number of learning opportunities available for associates. Good alternatives include shadowing senior professionals on assignments and taking on research or other projects that are not client-related but that nonetheless build expertise. Finally, mentoring is a two-way street. Protégés should not only learn from their senior counterparts, but also be taught to attract mentors—and to co-mentor one another.

Cooperation between Corporations and Environmental Groups: A Transaction Cost Perspective

Abstract

Theory suggests that when transaction costs are low, corporations and stakeholders can minimize social costs by transacting to their mutual advantage, but when transaction costs are high, reducing social costs requires the intervention of a centralized institution. Surprisingly little work has considered what happens in between—when transaction costs exist but recourse to hierarchical institution is barred. This paper uses transaction cost analysis to hypothesize how collaboration between corporations and environmental stakeholder groups will be structured.

Follow the Small? Information-Revealing Adoption Bandwagons When Profitability Expectations Are Related to Size

Abstract

We extend understanding of information-revealing bandwagons by considering a common condition under which adoption of a practice by small organizations, rather than large ones, has a disproportionate influence on future adoption propensities. We hypothesize that when the value of adoption increases with organizational size, smaller adopters have such disproportionate influence because they allow observers better to infer that adoption will be profitable for their own organization. We elaborate the theory by predicting that alternative information sources moderate the influence of smaller adopters. Empirically, we test our theory with longitudinal data on the adoption of the ISO 9000 quality management standard.

Postcards from the Edge: A Review of the Business and Environment Literature

Abstract

Environmental issues, while of growing interest, have been outside the main focus of business scholarship. This position on the periphery may have been a good thing. It allowed scholars of business and the environment to consider unusual theories and evaluate overlooked phenomenon. In doing so, they created a body of research that provides new insights on two topics of mainstream interest—the sources of competitive advantage and the origin and function of self-regulatory institutions.

Life-Cycle Funds

Abstract

The U.S. retirement system has experienced a substantial transformation in recent years. It has evolved from a system in which employees relied mainly on Social Security and professionally managed defined benefit (DB) pension plans sponsored by their employers to provide for their retirement to a system in which employees must rely on their own saving and investment decisions to fund their own retirement. Defined contribution (DC) plan participants and IRA holders decide how much to contribute (up to a legally established maximum limit) to their plan, and how to invest their contributions and the contributions that their employer might make on their behalf. Thus the benefits they get at retirement depend on their own accumulation and investment decisions. DC plan sponsors are only responsible for the design of the plan and for its administration and record-keeping. Current regulations grant sponsors considerable freedom in their selection of the number and type of investment options available to participants. In practice, most plan sponsors have chosen to offer a menu of plain vanilla mutual funds plus company stock. Thus mutual funds have become the main retirement investment vehicle in the United States, and mutual fund companies the main managers of retirement assets.