First Look

Publications

Nonfinancial Performance Measures and Promotion-Based Incentives

Abstract

In this paper, I examine the sensitivity of promotion and demotion decisions for lower-level managers to financial and nonfinancial measures of their performance and investigate the extent to which the behavior of lower-level managers reflects promotion-based incentives. Additionally, I test for learning vs. effort allocation effects of promotion-based incentives. I find that promotion and demotion decisions for store managers of a major U.S.-based fast-food retailer (QSR) are sensitive to nonfinancial performance measures of service quality and employee retention after controlling for financial performance. The likelihood of demotion in this organization is also sensitive to nonfinancial performance on the dimension of service quality, while the probability of exit is primarily sensitive to financial performance measures rather than nonfinancial performance measures. I also find evidence that the behavior of lower-level managers is consistent with the incentives created by the weighting of nonfinancial performance measures in promotion decisions. Managers in locations where there is a higher ex ante probability of promotion and a higher potential reward upon promotion demonstrate significantly higher levels and rates of performance improvement in service quality. Finally, consistent with promotion-based incentives inducing both effort-allocation and learning effects, I find that performance-improvement rates for service quality (1) are higher in pre-promotion periods in markets where promotions occur, (2) decrease immediately after the occurrence of a promotion in the same market area, and (3) remain higher than in markets where promotions did not occur. These findings provide some of the first empirical evidence on an alternative to the explicit weighting of nonfinancial metrics in compensation contracts as a mechanism for generating improvements in nonfinancial dimensions of performance.

I Read Playboy for the Articles: Justifying and Rationalizing Questionable Preferences

Abstract

When people behave in ways that might appear selfish, prejudiced or perverted, they engage in a host of strategies designed to justify questionable behavior with rational excuses: "I hired my son because he's more qualified"; "I promoted Ashley because she does a better job than Aisha"; or, in the example from our title, "I read Playboy for the articles." In this chapter, we first describe two means by which individuals rationalize and justify questionable behavior. First, we focus on preemptive actions people take before engaging in such behavior. Second, we focus on concurrent strategies, examining how people restructure situations such that their behavior seems less questionable—including an experiment in which people justify their suspect magazine preferences. We conclude by briefly reviewing two additional strategies for coping with such difficult situations: forgoing making decisions and forgetting those decisions altogether.

How Well Do Social Ratings Actually Measure Corporate Social Responsibility?

Abstract

Ratings of corporations' environmental activities and capabilities influence billions of dollars of "socially responsible" investments as well as some consumers, activists, and potential employees. In one of the first studies to assess these ratings, we examine how well the most widely used ratings—those of Kinder, Lydenberg, Domini Research & Analytics (KLD)—provide transparency about past and likely future environmental performance. We find KLD "concern" ratings to be fairly good summaries of past environmental performance. In addition, firms with more KLD concerns have slightly, but statistically significantly, more pollution and regulatory compliance violations in later years. KLD environmental strengths, in contrast, do not accurately predict pollution levels or compliance violations. Moreover, we find evidence that KLD's ratings are not optimally using publicly available data. We discuss the implications of our findings for advocates and opponents of corporate social responsibility as well as for studies that relate social responsibility ratings to financial performance.

Download the paper:
http://www.hbs.edu/research/pdf/07-051.pdf

Reputation When Threats and Transfers Are Available

Abstract

We present a model where a long-run player is allowed to use both money transfers and threats to influence the decisions of a sequence of short-run players. We show that threats might be used credibly (even in arbitrarily short repeated games) by a long-lived player who gains by developing a reputation of carrying out punishments. Particular cases of the model are a long-lived pressure group offering rewards and punishments to a series of targets (public or corporate officials) in exchange for policy favors, or that of a long-lived extorter who demands money in order not to punish. We use the model to analyze the "convicted nonpayor" debate around judicial corruption. The model highlights formal similarities between lobbying and extortion.

Choosing Agents and Monitoring Consumption: A Note on Wealth as a Corruption-Controlling-Device

Abstract

There are a large number of cases where corruption has been discovered investigating levels of consumption that appear to be hard to justify. Yet, in the standard moral hazard model withholding of effort by the agent is not observable to the principal. We argue that this assumption has to be revised in applications that study corruption. The informativeness of an agent's level of consumption depends on his legal income and initial level of wealth, as conspicuous consumption by wealthy agents leads to little updating of the principal's belief about their honesty. This introduces a tendency to prefer poor agents as they are easier to monitor. More generally, we describe the basic problem of choosing agents and monitoring consumption with the aim of reducing corruption and discuss features of the practical applications. We show that when there is consumption monitoring and wealth is observed, the effect of higher wealth on equilibrium bribes is ambiguous (and that the political class will exhibit lower variance in consumption than the general population). In settings where formal contracts matter, we show that monitoring consumption introduces a tendency towards low-powered incentives (and more generally low wages). We also discuss the role of ability, the tax system, and the way to derive a measure of the value of illegal funds for the agent.

Cost Reductions, Cost Padding and Stock Market Prices: The Chilean Experience with Price Cap Regulation

Abstract

We study the Chilean electricity distribution industry and find that costs (the ratio of reported costs to revenues) have fallen since price caps were introduced. Cost reductions are U-shaped since 1989: Strong initial cost reductions reverse every four years, coinciding with regulatory reviews. A possible explanation is that firms are behaving strategically. We then use stock market data to complement our study. We construct a measure of cumulative abnormal returns for regulated firms around their quarterly announcements, and a measure of "naive" cost expectations which excludes any indication of the occurrence of review periods. In general, cost reports in excess of naive cost expectations have a negative effect on returns, even after we control for company fixed effects. The exception is cost "surprises" that happen during review periods, which increase abnormal returns. The estimated effects fall over time. This is consistent with the hypothesis of strategic firms and that the regulatory regime translates these "games" into higher rates in a way that is not completely anticipated by the market. More generally, the results suggest there may be value in complementing regulatory procedures with stock market information.

Crime and Beliefs: Evidence from Latin America

Abstract

We find that perceptions of crime and individual experience with crime (crime victimization) are positively correlated with left-wing beliefs within countries, controlling for income and other correlates of ideology, in a sample of Latin American countries in the mid-1990s.

Crime and Punishment in the 'American Dream'

Abstract

We observe that countries where belief in the "American dream" (i.e., effort pays) prevails also set harsher punishment for criminals. We know that beliefs are also correlated with several features of the economic system (taxation, social insurance, etc). Our objective is to study the joint determination of these three features (beliefs, punitiveness, and economic system) in a way that replicates the observed empirical patterns. We present a model where beliefs determine the types of contracts that firms order and whether workers exert effort. Some workers become criminals, depending on their luck in the labor market, the expected punishment, and an individual shock that we call "meanness." It is this meanness level that a penal system based on "retribution" tries to detect when deciding the severity of the punishment. We find that when initial beliefs differ, two equilibria can emerge out of identical fundamentals. In the "American" (as opposed to the "French") equilibrium, belief in the "American dream" is commonplace, workers exert effort, there are high-powered contracts (and income is unequally distributed) and punishments are harsh. Economists who believe that deterrence (rather than retribution) shapes punishment can interpret the meanness parameter as pessimism about future economic opportunities and verify that two similar equilibria emerge.

Gross National Happiness as an Answer to the Easterlin Paradox?

Abstract

The Easterlin Paradox refers to the fact that happiness data are typically stationary in spite of considerable increases in income. This amounts to a rejection of the hypothesis that current income is the only argument in the utility function. We find that the happiness responses of around 350,000 people living in the OECD between 1975 and 1997 are positively correlated with the level of income, the welfare state and (weakly) with life expectancy; they are negatively correlated with the average number of hours worked, environmental degradation (measured by SOx emissions), crime, openness to trade, inflation and unemployment—all controlling for country and year dummies. These effects separate across groups in a pattern that appears broadly plausible (e.g., the rich suffer environmental degradation more than the poor). Based on actual changes from 1975 to 1997, small contributions to happiness can be attributed to the increase in income in our sample. Interestingly, the actual changes in several of the 'omitted variables' such as life expectancy, hours worked, inflation and unemployment also contribute to happiness over this time period since life expectancy has risen and the others have, on average, fallen. Consequently the unexplained trend in happiness is even bigger than would be predicted if income was the only argument in the utility function. In other words, introducing omitted variables worsens the income-without-happiness paradox.

A Resource Belief-Curse: Oil and Individualism

Abstract

We study the correlation between a belief concerning individualism and a measure of luck in the US during the period 1983-2004. The measure of beliefs is the answer to a question related to whether the poor should be helped by the government or if they should help themselves, while the measure of luck is the share of the oil industry in the state's economy multiplied by the price of oil. The correlation is negative, suggesting that more reliance on luck is correlated with less individualism. We provide three short models that help interpret this correlation. One implication of this finding is that societies that depend heavily on oil, and perhaps natural resources more generally, will experience a heavier demand for government intervention. We argue that this is one aspect that the good design of policies on the extraction of oil and mineral resources should take into account.

Consumers' Price Sensitivities Across Complementary Categories

Abstract

In this paper, we examine the pattern of correlation among consumer price sensitivities for customer purchase incidence decisions across complementary product categories. We use a hierarchical Bayesian multivariate probit model to uncover this pattern. We estimated this model using purchase incidence data for six categories involving three pairs of complementary products. Our results show a new and interesting pattern of correlation among price parameters of complementary products. For example, we find that the correlation of own-price sensitivities of complementary products is negative. These results are consistent across the three complementary pairs of products. We also investigate the reason for this counterintuitive result. Finally, we present some managerial implications of our model. We show how our model can be used for cross-category targeting decisions by retailers. We find that compared to nontargeted discounting, the average profitability gain from customized discounting across the three category pairs is only 1.29% when complementarity is ignored, but this gain improves to 8.26% when full complementarity is taken into account. We also investigate whether ignoring the complex pattern of correlation has implications for managerial actions regarding targeting and optimal discounting. We find that retailers can make misleading inferences about the impact of targeted discounts when they ignore cross-category effects in modeling.

Beyond Dependence: Conceptualizing Information and Accountability in NGO-Funder Relations

Abstract

This paper explores the linkages between information systems and accountability in nongovernmental and nonprofit organizations (NGOs). The information systems in four NGOs are introduced: two Indian NGOs engaged in natural resource management and rural development, an education-focused nonprofit in urban Washington, D.C., and a rights-based transnational organization operating in over thirty countries. Despite the differences among these NGOs, they all face closely related challenges in developing information and accountability systems. The cases suggest that, for information systems to be useful for purposes of long-term social change, NGOs require indicators that are manageable in number and meaningful in content, information systems and technologies that are reflective of mission and values, and regular opportunities for innovation. Sometimes, such systems are simple and flexible, rather than rigorous or sophisticated. The second part of the paper challenges conventional characterizations of NGOs as being dependent on donors for money. It argues that there is an "interdependence" in which funders rely on NGOs for information that builds their reputations. This interdependence provides an opening for NGOs to challenge the nature of reporting and accountability to their donors. Finally, the third part of the paper explores how this interdependence affects the accountability priorities of NGOs and, in so doing, offers conceptual links between information and accountability.

Sharing a River among Satiable Countries

Abstract

We consider the problem of efficiently sharing water from a river among a group of satiable agents. Since each agent's benefit function exhibits a satiation point, the environment can be described as a cooperative game with externalities. We show that the downstream incremental distribution is the unique distribution which both is fair according to the "aspiration welfare" principle and satisfies the non-cooperative core lower bounds. On the other hand, the cooperative core may be empty. Furthermore, the downstream incremental distribution satisfies all core lower bounds for all connected coalitions if and only if each agent's individual rationality constraint is independent of the behavior of the other agents.

Truncation Strategies in Matching Markets

Abstract

Roth and Rothblum showed that for matching markets using the deferred acceptance algorithm a physician with symmetric (incomplete) information possibly gains only by truncating her true ranking. We show that in symmetric information environments this result is identical for all priority mechanisms and all linear programming mechanisms introduced in British entry-level medical markets and in public school choice in some American cities.

Is Yours a Learning Organization?

Abstract

Using this assessment tool, companies can pinpoint areas where they need to foster knowledge sharing, idea development, learning from mistakes, and holistic thinking.

Allocating Marketing Resources

Abstract

Marketing is essential for the organic growth of a company. Not surprisingly, firms spend billions of dollars on marketing. Given these large investments, marketing managers have the responsibility to optimally allocate these resources and demonstrate that these investments generate appropriate returns for the firm. In this chapter we highlight a two-stage process for marketing resource allocation. In stage one, a model of demand is estimated. This model empirically assesses the impact of marketing actions on consumer demand of a company's product. In stage two, estimates from the demand model are used as input in an optimization model that attempts to maximize profits. This stage takes into account costs as well as firm's objectives and constraints (e.g., minimum market share requirement). Over the last several decades, marketing researchers and practitioners have adopted various methods and approaches that explicitly or implicitly follow these two stages. We have categorized these approaches into a 3x3 matrix, which suggests three different approaches for stage-one demand estimation (decision calculus, experiments and econometric methods), and three different methods for stage-two economic impact analysis (descriptive, what-if and formal optimization approach). We discuss pros and cons of these approaches and illustrate them through applications and case studies.

Building Bridges: The Social Structure of Interdependent Innovation

Abstract

Multidivisional firms often fail to take advantage of innovations that involve combining resources from distinct divisions. This failure of cross-line-of-business innovation is a consequence of design choices employed to execute the firm's strategy: in organizing around its core businesses, the firm renders interdependence between divisions residual to the formal structure. As a result, those innovations which involve cross-line-of-business interdependence are trumped by the firm's articulated strategy and structure. Social structures could, potentially, fill this coordination gap. But social structures associated with the initiation of interdependent innovation are inversely associated with their execution. We build a dynamic, corporate-level, evolutionary model in which individuals autonomously initiate cross-line-of-business projects not through the formal structure of the firm, but using contacts from their own social networks. Some of these projects are selected and actively supported by senior executives; this support sends clear signals about what collaboration is valued by the firm, which gives other actors powerful, albeit informal, incentives to connect with others across the inter-unit boundary. As a result, the sparse inter-unit social structure that was conducive to initiation changes, becoming much more cohesive (at least locally) is able to support execution and retain these interdependent innovations. Thus, where intra-divisional innovations are primarily driven by organizational structure, we suggest that interdivisional innovations are driven primarily by social networks.

Putting Leadership Back into Strategy

Abstract

In recent decades an infusion of economics has lent the study of strategy much needed theory and empirical evidence. Strategy consultants, armed with frameworks and techniques, have stepped forward to help managers analyze their industries and position their companies for strategic advantage. Strategy has come to be seen as an analytical problem to be solved. But, says Montgomery, the Timken Professor of Business Administration at Harvard Business School, the benefits of this rigorous approach have attendant costs: Strategy has become a competitive game plan, separate from the company's larger sense of purpose. The CEO's unique role as arbiter and steward of strategy has been eclipsed. And an overemphasis on sustainable competitive advantage has obscured the importance of making strategy a dynamic tool for guiding the company's development over time. For any company, intelligent guidance requires a clear sense of purpose, of what makes the organization truly distinctive. Purpose, Montgomery says, serves as both a constraint on activity and a guide to behavior. Creativity and insight are key to forging a compelling organizational purpose; analysis alone will never suffice. As the CEO—properly a company's chief strategist—translates purpose into practice, he or she must remain open to the possibility that the purpose itself may need to change. Lou Gerstner did this in the 1990s, when he decided that IBM would evolve to focus on applying technology rather than on inventing it. So did Steve Jobs, when he rescued Apple from a poorly performing strategy and expanded the company into attractive new businesses. Watching over strategy day in and day out is the CEO's greatest opportunity to shape the firm as well as outwit the competition.

The Emerging Problem of Embedded Defenses

No abstract is available at this time.

Read the article:
http://www.harvardlawreview.org/issues/120/march07/subramanian.pdf

Managing the Impact of Employee Turnover on Performance: The Role of Process Conformance

Abstract

We examine the impact of employee turnover on operating performance in settings that require high levels of knowledge exploitation. Using 48 months of turnover data from U.S. stores of a major retail chain, we find that, on average, employee turnover is associated with decreased performance, as measured by profit margin and customer service. The effect of turnover on performance, however, is mitigated by the nature of management at the store level. The particular aspect of management on which we focus is process conformance—the extent to which managers aim to reduce variation in store operations in accordance with a set of prescribed standards for task performance. At high-process-conformance stores, managers use discipline in implementing standardized policies and procedures, whereas at low-process-conformance stores, managers tolerate deviations from these standards. We find that increasing turnover does not have a negative effect on store performance at high-process-conformance stores; at low-process-conformance stores, the negative effect of turnover is pronounced. Our results suggest that, in settings where performance depends on the repetition of known tasks, managers can reduce turnover's effect by imposing process discipline through standard operating procedures.