INTEGRATION OF THE SALES FORCE: AN EMPIRICAL EXAMINATIONAnderson, E., & Schmittlein D. C., Rand Journal of Economics, 1984

Youngsoo Kim, BADM 545 Fall 2013

Overview When does vertical integration take place?

Conventional approach Company size model Focus on manufacturing – physical assets valuation

oriented

What is new? Human assets and vertical integration Empirical verification of TCE approach

How? Direct salesperson vs. Representative agency Logistic regression analysis

Problem: “Rep” vs. “Direct” Representative agency (“Rep”)

Independent of multiple manufacturers that it represents

market governance mode

Direct sales people Employees of one manufacturer hierarchical governance mode

Industry practices Rep accounts for only 10% of U.S. dollar volume

(as of 1977)

Proposition 1: Asset specificity Fungible assets

Economies of scale, risk-pooling Rep is preferable

Relationship specialized assets Opportunism, inflexibility Direct is more efficient

The greater the total value of company-specific assets, the greater the likelihood of vertical integration in the form of a direct sales force

Fungible: able to replace or be replaced by another identical item; mutually interchangeable

Proposition 2: Uncertainty Environmental uncertainty (Williamson, 1979)

Unforeseen environment shifts result to incomplete contracts

Direct is more suitable under high uncertainty because of easier adaptations, provided that assets are company specific

Difficulty of performance evaluation (Williamson, 1981) Input measures and a subjective judgment are preferable

to output measures when they are hard to assess

The likelihood of integration should increase with two forms of uncertainty

Proposition 3: Frequency Tradeoff – overhead and opportunism

Specialized governance needs setup and maintenance costs

Market governance incurs opportunism and inflexibility Transaction frequency

Measurability of transaction frequency Can a firm break even on the fixed cost of integration? Fixed costs / breakeven point estimation is not

straightforward Heuristic: geographic transaction density

As density increases, more use of a direct sales force is expected

Empirical model: data collection

Industry : Electronic components manufacturing “… its variety makes it a microcosm of American

business …”

Unit of analysis Product line of a given company in a given (set of)

territory

Survey respondents Territory sales managers

Empirical model: logistic regression Explanatory variables

Transaction specificity of assets (TSA) Uncertainty as environmental unpredictability (UEU) Uncertainty as difficulty of evaluating performance

(UDEP) Territory density (TD) Company size (SIZE) Asset specificity / unpredictability interaction

(ZUEUTSA) Asset specificity / measurement difficulty

(ZUDEPTSA)

Regression model

Empirical results (1)

Empirical results (2)

Coefficient of determination To evaluate the contribution of the set of

transaction-cost variables over SIZE alone

Both coefficient significance test and predictive effectiveness test indicate that TC variables significantly explain the likelihood of vertical integration

Conclusion

Some TC variables are crucial for vertical integration Asset specificity Performance immeasurability

Limitations Specificity/uncertainty interactions were not found Effect of density turns out to be insignificant Findings are limited to one type of integration and

industry