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Contracts are an agreement for the exchange of a product or service and form a cornerstone of productive exchange in B2B markets. An important conundrum that managers face is to balance the degree of specificity in contracts. One the one hand crafting more detailed clauses clarify roles and responsibilities and reduces potential misunderstandings while safeguarding investments by discouraging the counter-party from engaging in opportunistic re-negotiations. On the other hand, keeping contract terms open enables ex post value-enhancing adjustments but also gives the counter-party an opportunity to exploit unspecified loopholes that lead to higher problems afterwards. We suggest a three-step approach to contracting to deal with this conundrum.
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Related Marketing Courses:
Business-to-Business Marketing; Marketing Strategy; Salesforce Management
Full Citation:
Mooi, Erik A., & Mrinal Ghosh (2010) “Contract specificity and its performance implications.” Journal of Marketing, 74(2), 105-120.
Article Abstract:
Governance theories, such as transaction cost economics, argue that systematic deviations from an attribute–governance alignment should influence performance. This article investigates the performance implications of contract specificity for the procurement of information technology products. The authors argue that parties choose a level of contract specificity that economizes on both the ex ante contracting costs and the ex post transaction costs and that deviations between the observed and the predicted levels of contract specificity are an important determinant of these transaction costs. The authors test the hypotheses using a comprehensive archival data set of information technology transactions and employ a two-step estimation procedure. First, they estimate the “predicted” level of contract specificity, which accounts for key transactional attributes. Second, they study the consequences of deviating from this predicted level of contractual specificity. The results provide the first explicit demonstration of the trade-off between ex ante contracting costs and ex post transaction problems and suggest that parties need to economize jointly on these costs when choosing the governance form.
Special thanks to Demi Oba and Holly Howe, Ph.D. candidates at Duke University, for their support in working with authors on submissions to this program.
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Erik A. Mooi is Associate Professor of Marketing, University of Melbourne, Australia.
Mrinal Ghosh is Gary M. Munsinger Endowed Chair in Entrepreneurship and Innovation, University of Arizona, USA.