First Look

April 26, 2011

Customer Lifetime Value is a metric that allows businesses to look beyond short-term performance in order to attract customers who pay off over the long term. But does CLV actually change behavior of employees who use it to make decisions? In a study of a mid-sized southern European bank looking to increase mortgage sales, researchers Pablo Casas-Arce, Francisco de Asis Martinez-Jerez, and V.G. Narayanan learned that branch managers using CLV increased the share of mortgage sales in attractive customer segments, but there was little difference in cross-selling, price concessions, or incorporation of risk considerations in their lending decisions. Read "The Impact of Forward-Looking Metrics on Employee Decision Making."

Here's a dilemma most startups encounter at one time or another. The first round of VC funding is about to expire and the founders must decide whether the business model is sound or needs a serious adjustment. In the case "Primedic-Providing Primary Care in Mexico," Richard G. Hamermesh, Regina Garcia Cuellar, and Lauren Margulies explore this difficult decision at a Mexican startup whose goal is to provide affordable healthcare to those at the base of the economic pyramid.

In the international energy trade, what seems a straightforward negotiation between two parties involves convincing other stakeholders who have a say. In the new case "Energy Security in Europe (A): Nord Stream," Rawi Abdelal and Sogomon Tarontsi illustrate the political, economic, and managerial implications of the natural gas trade between Russia, Germany and the European Union.

— Sean Silverthorne


Management Accounting: Information for Decision Making and Strategy Execution


An approach to management accounting from the perspective of a business manager.

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Who Benefits from Religion?


Many studies have documented the benefits of religious involvement. Indeed, highly religious people tend to be healthier, live longer, and have higher levels of subjective well-being. While religious involvement offers clear benefits to many, in this paper we explore whether it may also be detrimental to some. Specifically, we examine in detail the relation between religious involvement and subjective well-being. We first replicate prior findings showing a positive relation between religiosity and subjective well-being. However, our results also suggest that this relation may be more complex than previously thought. While fervent believers benefit from their involvement, those with weaker beliefs are actually less happy than those who do not ascribe to any religion—atheists and agnostics. These results may help explain why—in spite of the well-documented benefits of religion—an increasing number of people are abandoning their faith. As commitment wanes, religious involvement may become detrimental to well-being, and individuals may be better off seeking new affiliations.

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Working Papers

The Impact of Forward-Looking Metrics on Employee Decision Making


This paper analyzes the effects of providing forward-looking metrics on employee decision making. We use data from a southern European bank that, in April 2002, started providing its branch managers with customer lifetime value (CLV) information about mortgage applicants. The data allow us to gauge the effects of enriching the information set of these employees in an environment where incentives and the allocation of decision rights remained unchanged. We find that CLV availability resulted in a significant shift in attention towards the more profitable client segments (the weight of the top segment in the portfolio of customers increases from 26% to 34%), but we do not find evidence of improved cross-selling (except for an increase in the sale of insurance products). Moreover, the use of CLV information did not have a negative impact on pricing, as some of the literature suggests, nor on default risk, indicating that managers increased sales to more profitable customers by providing better customer service.

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Signaling to Partially Informed Investors in the Newsvendor Model


We investigate a puzzling phenomenon in which firms make investment decisions that purposefully do not maximize expected profits. Using an extension to the newsvendor model, we focus on a relatively common scenario in which the firm's investor has imperfect information concerning the quality of the firm's investment opportunities. We apply Perfect Bayesian equilibrium solution concepts and confirm that over a range of reasonable model parameters the firm's investment decision does not maximize expected profits. Surprisingly, this includes instances in which a firm with a higher quality investment opportunity finds it attractive to underinvest, thereby behaving as if she faces a lower quality investment opportunity. This is particularly interesting as prior research in the finance literature has shown that firms will overinvest in high quality projects when investors have imperfect information about the quality of the firm's opportunities. While we conduct our analysis in the context of an inventory stocking decision, our model is generalizable to other types of capacity investment decisions.

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Heterogeneity and Optimal Capital Income Taxation


We examine a prominent justification for capital income taxation: goods preferred by those with high ability ought to be taxed. In an environment where commodity taxes are allowed to be nonlinear functions of income and consumption, we derive an analytical expression that reveals the forces determining optimal commodity taxation. We then calibrate the model to evidence on the relationship between skills and preferences and extensively examine the quantitative case for taxes on future consumption (saving). In our baseline case of a unit intertemporal elasticity, optimal capital income tax rates are 2% on average and 4.5% on high earners. We find that the intertemporal elasticity of substitution has a substantial effect on optimal capital taxation. If the intertemporal elasticity is one-third, optimal capital income tax rates rise to 15% on average and 23% on high earners; if the intertemporal elasticity is two, optimal rates fall to 0.6% on average and 1.6% on high earners. Nevertheless, in all cases that we consider, the welfare gains of using optimal capital taxes are small.

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Accounting for Crises


We provide one of the first tests of recent macro global-game crisis models that show that the precision of public signals can coordinate crises (e.g., Angeletos and Werning 2006; Morris and Shin 2002, 2003). In these models, self-fulfilling crises (independent of fundamentals) can occur only when publicly disclosed fundamental signals have high precision; fundamentals are thus the sole driver of crises in low-precision settings. We affirm this proposition on 39 currency crises by exploiting a key publicly disclosed fundamental driving financial markets, namely accounting data. We find that fundamental accounting signals are stronger in-sample predictors of crises in low-precision countries.

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Cases & Course Materials

Energy Security in Europe (A): Nord Stream

Rawi Abdelal and Sogomon Tarontsi
Harvard Business School Case 711-026

Russian and German energy firms initiated the Nord Stream natural gas pipeline project with strong political support from their home governments but encountered resistance from other states. Although the pipeline would connect Russia with Germany directly, the project was not simply a bilateral matter. First, a need to secure construction permits in multiple jurisdictions around the Baltic Sea involved other countries. And second, Germany's membership in the European Union entailed compliance with goals and values of the entire union, which stressed the imperative of collective action in energy matters and dangers of succumbing to "national reflexes." Thus the implications of the project became a matter of concern to the entire European Union, but Europeans struggled to articulate the meaning of Nord Stream: was it a "separate peace" between Russia and Germany to the detriment of the rest, or was it a pan-European deal to the benefit of all? As the case chronicles, the success of Nord Stream depended on the ability of its creators to ensure that the latter view prevailed over the former.

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Energy Security in Europe (B): The Southern Corridor

Rawi Abdelal and Sogomon Tarontsi
Harvard Business School Supplement 711-033

Nabucco natural gas pipeline, initiated by a group of European energy companies, was intended to connect the broad gas-rich region of the Middle East and Central Asia to Europe for the first time, which would diversify supply sources. At the same time, an Italian-Russian consortium announced South Stream natural gas pipeline, which would diversify transport routes for the delivery of Russian gas to Europe. To win support, backers of Nabucco and South Stream insisted that their projects were aimed at fulfilling goals of the EU's energy policy (reducing the use of fossil fuels to combat climate change and guaranteed physical availability and affordability of imported fossil fuels). But, as the case demonstrates, both projects progressed slowly, encountering many technological and commercial challenges, which, however, were eclipsed by the extreme politicization of Nabucco and South Stream: pipelines became a factor in domestic politics of several European nations and figured prominently in relations between the EU, EU states, Russia, Turkey, former Soviet republics in Caucasus and Central Asia, and the United States. Although they would comprise only a small part in the overall architecture of Europe's energy security, the case of Nabucco and South Stream reveals the limits of the ambitious energy policy of the EU.

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Primedic—Providing Primary Care in Mexico

Richard G. Hamermesh, Regina Garcia Cuellar, and Lauren Margulies
Harvard Business School Case 811-040

Primedic is a Mexican start-up that aims to deliver affordable primary and preventative healthcare to those at the base of the economic pyramid. The company is about to exhaust its first round of venture capital funding, and the business model has yet to gain traction. How should the business model be changed, and should the venture capitalists continue to fund the company?

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Deferred Tax Assets in Basel III: Lessons from Japan

David F. Hawkins, Karthik Ramanna, Nobuo Sato, and Mayuka Yamazaki
Harvard Business School Case 111-076

In a controversial decision, the Bank for International Settlements includes deferred tax assets as part of a bank's core capital.

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Sherritt Goes to Cuba (A): Political Risk in Unchartered Territory

Aldo Musacchio and Jonathan Schlefer
Harvard Business School Case 711-001

Ian Delaney, CEO of Sherritt, primarily a mining company, visited Cuba in the early 1990s to negotiate a deal to export nickel for its Canadian refineries. The case describes the difficulties of doing business in Cuba and the challenges Delaney overcame to turn Sherritt into a large diversified holding company that operates in mining, oil, utilities, telecomm, hotels, and others. Delaney did this while managing a relationship with an authoritarian regime with an anti-capitalist discourse.

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