Performance implications of buyer-supplier relationships in industrial markets

Performance Implications of Buyer-Supplier Relationships in Industrial Markets

ELSEVIER

A Transaction Cost Explanation Jan B. Heide UNIVERSITY OF WISCONSIN-MADISON

Rodney L. Stump LOYOLACOLLEGEIN MARYLAND

Increasing international competition in a number of industries has required U.S. manufacturers to undertake strate~c realignments of various kinds. One of the most noticeable changes has been in the purchasing area, where industrial buyersfrequently have made deliberate efforts to establish stronger relationships with suppliers. Although recent research has generated considerable insight into the nature of such relationships, the existing literature is incomplete in several important respects. In particular, the performance implications of adopting particular forms of relationships are virtually undocumented in the extant literature. This article draws on transaction cost theory (TCA) to propose that: (1) crafting stronger relationships is partly a response to the presence of uncertainty and transaction-specific assets and (2) structuring relationships in accordance with TCA prescriptions should have positive performance implications. Regression analysis conducted in a sample of OEM-supplier relationships shows good support for our hypotheses, j BUSN aES 1 9 9 5 . 3 2 . 5 7 - - 6 6

uring the last few years, many markets have become increasingly global, in the sense that domestic manufacturers have been experiencing increasing competitive pressure from foreign firms (Porter and Fuller, 1986). These developments have evoked a series of strategic responses from U.S. manufacturers, ranging from attempts to establish foreign operations of their own to efforts designed to improve the efficiency of their existing domestic operations (Lodge and Walton, 1989). With respect to the former category of strategies, a number of firms has initiated foreign operations of various kinds, including direct foreign investments (Contractor and Lorange, 1988), alliances with foreign parmers (Ohmae, 1989; Perlmutter and Heenan, 1986), and, on a more limited scale, engaged in foreign sourcing or lowering of their "purchase boundaries" (Lyons, Krachenberg, and Henke, 1990). For instance, foreign firms have become increasingly significant sources of supply in industries like electronics, telecommunications, aerospace, and motor vehicle manufacturing (Business Week, 1986a).

Address correspondenceto: Jan B. Heide, School of Business, University of WisconsinMadison, 975 University Avenue, Madison, Wl 53706-1323. Journal of Business Research 32, 57-66 (1995) © 1995 Elsevier Science Inc. 655 Avenue of the Americas, New York, NY 10010

As an alternative to the establishment of foreign operations per se, a number of firms have responded to the emergence of international competition by changing aspects of their domestic operations (Lodge and Walton, 1989). Some of the most visible changes have been in the purchasing area, where a number of manufacturers have adopted new strategies for dealing with suppliers. In the extant literature, these strategies have been described by terms like "parmerships" (Johnston and Lawrence, 1988), "collaborative ties" (Spekman, 1988), and "alliances" (Heide and John, 1990). In a general sense, the new patterns of buyer-supplier interaction represent a general trend toward closer and more cooperative relationships, and may be viewed in part as an attempt to emulate the practices of some of the relevant international competitors, in particular those of Japanese manufacturers (Turnbull.et al., 1992). One of the most significant aspects of these relationships is not their emergence, but rather their radical departure from what may be called the conventional philosophy of relationship management. This philosophy is well illustrated in Porter's (1980) model of strategies toward buyers and suppliers, which essentially advocates the creation of bargaining power relative to the focal buyer or supplier. In its pure form, this approach assumes an inherently adversarial interaction to exist between firms, and the recommended strategies follow from an overall objective of extracting concessions from the exchange partner. The overall implication of Porter's model for purchasing strategy is for buyers to deliberately keep suppliers at "arm's length" and to avoid any form of commitment. In contrast, the emerging industry trends reflect a desire on the part of industrial buyers to craft stronger ties with suppliers. A specific example is Xerox, which has abandoned its past policy of multiple sourcing for components and instead has developed closer relationships with one or a limited number of suppliers for individual items. Similar changes have been undertaken by a number of automobile and aerospace manufacturers (Burt 1989a, 1989b; Marketing News 1985). Interestingly, these developments have exposed some deficiencies in the traditional marketing literature. According to Jackson (1985), the extant conceptual frameworks in marketing emphasize the management of transactions and generally provide limited insight into questions regarding the formation and ISSN 0148-2963/95/$9.50 SSDI 0148-2963(94)00010-C

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management of relationships. During the last few years, however, a new body of literature has emerged, which in particular has focused on delineating the dimensions of buyer-supplier relationships (Dwyer, Schurr, and Oh, 1987; Spekman, 1988), and their antecedent conditions (e.g., Heide and john, 1990). In spite of the important insights generated by this research, our present knowledge about buyer-supplier relationships is limited in several important respects. One particular unanswered question pertains to the performance implications of relationship formation. Almost without exception, both the extant industry accounts (e.g., Bertrand, 1986) as well as the theoretical models of relationships (Jackson, 1985; Turnbull and Wilson, 1989) are implicitly based on the assumption that relationships are established in order to enhance some aspect of performance. At the same time, the specific mechanisms by which performance is enhanced are rarely addressed in the extant literature. Specifically, the conditions under which particular relationship dimensions are expected to enhance performance are rarely made explicit, and empirical evidence regarding performance is virtually nonexistent. As is quite obvious from a number of reported failures and problems (e.g., Harrigan, 1988; Lyons et al., 1990; Spekman and Sawhney, 1991), establishing close relationships is not a universally desirable strategy and should be made in a deliberate fashion, based on close attention to specific performance dimensions. One potentially useful theoretical framework in this respect is transaction cost analysis (TCA). Originating from the field of institutional economics (Coase, 1937; Williamson, 1985), it provides explicit normative prescriptions regarding the organization of exchange relationships. Unfortunately, in spite of its explicit performance orientation, the theory's normative implications have to date hardly been subject to empirical testing. For the most part, the previous tests of transaction cost theory have been descriptive in nature, in that they have only examined whether firms actually acted in accordance with the theoretical prescriptions, without exploring the relevant performance implications (e.g., Anderson, 1985; Dwyer and Oh, 1988; Heide and John, 1990). As a consequence, the theoretical framework appears to have been underutilized to date. The main purpose of this study is to develop a conceptual model of performance in industrial purchasing relationships between OEM manufacturers and their component suppliers. We will be focusing on one key aspect of such relationshipstheir time dimension or continuity. Following transaction cost theory, we will hypothesize that an appropriate match between relationship continuity and the given transactional characteristics (i.e., uncertainty and transaction-specific assets) will enhance performance. In the next section we provide a brief review of transaction cost theory. The subsequent section presents our conceptual framework and research hypotheses, followed by our research methodology and the results. The last two sections contain a discussion of the implications of the study and highlight some study limitations and implications, for future research.

J.B. Heide and R. L. Stump

Transaction Cost Analysis of Buyer-Supplier Relationships Developed primarily by Williamson (1975, 1985, 1991 a), transaction cost theory may be viewed in a general sense as a paradigm whose primary focus is the design of efficient mechanisms for conducting transactions. The main assumption on which the paradigm is built is that economic transactions have potential costs associated with them, viz. costs associated with writing, negotiating and enforcing contracts (Williamson, 1985). Such costs become significant under certain conditions, in particular in the presence of transaction-specific investments and uncertainty. Transaction-specific investments are assets that are uniquely tailored to a particular exchange relationship and which have low salvage value outside of the focal relationship. In industrial purchasing relationships, buyers may make investments in tooling, equipment, and organizational procedures that are uniquely tailored to the relationship with an individual supplier. For example, Xerox incorporates supplier-designed components into many of its products, which requires idiosyncratic adaptations of production lines and procedures to individual suppliers (Burt, 1989b). Similarly, manufacturers may make investments in the form of training technicians on particular types of equipment. Eventually, costs associated with retraining may represent a strong disincentive to change suppliers (Turnbull and Wilson, 1989). To the extent that specific assets are present in a particular situation, they represent a contractual hazard in the sense that their "quasi-rent" stream may be opportunistically expropriated (Klein, Crawford, and Alchian, 1978; Rubin, 1990). Uncertainty poses a transactional problem of a somewhat different nature. It is a property of the decision environment within which transactions take place and refers in a general sense to a situation in which the relevant decision contingencies can not be spelled out ex ante. In industrial purchasing contexts, one particular source of uncertainty is volume unpredictabili W. In operational terms, this is defined as the buyer's inability to specify in advance required purchase volumes from the supplier (Bum 1989a; Walker and Weber, 1984). Resulting in part from volatility in the buyer's downstream market, this form of uncertainty creates an adaptation problem, which in turn gives rise to transaction costs in connection with modifying agreements to new circumstances. The main premise of transaction cost theory is that modes of exchange should be selected that economize on these costs. In its original form (Williamson, 1975), the theory framed the decision problem as a choice between a spot-market transaction and complete vertical integration ("hierarchy"). Vertical integration is viewed a priori as a superior means of dealing with the transaction difficulties posed by uncertainty and specific assets. Basically, internalizing a transaction substitutes market forces with an organizational control and coordination system, which both serves to safeguard specific assets as well as facilitate adaptation to uncertainty. Subsequent extensions of the basic TCA framework have

Buyer-Supplier Relationships

challenged the sharp distinction between markets and hierarchies and suggested that many of the benefits offered by integration can be achieved in relationships between independent firms, under conditions when outright integration is not feasible or desirable (Borys and Jemison, 1989; Spekman and Sawhney, 1991; Powell, 1990). The reason for this is that features can be built into interfirm relationships that simulate the effects of organizational hierarchies. Specifically, mechanisms can be crafted that have particular safeguarding (Heide and John, 1988) and adaptation (Stinchcombe, 1985) qualities. As such, the governance problem becomes a matter of appropriately structuring the organizational interface with the focal exchange partner, as opposed to considering outright integration or ownership. In the context at hand, one key relationship feature is the time dimension of the buyer-supplier interaction. As noted by both industry observers (Sheridan, 1988) and academic researchers (Jackson, 1985; Spekman, 1988), one dominant characteristic of the new buyer-supplier relationships is their length, not only in terms of the formal length of the contracts that are signed, but also in terms of their anticipated time horizon (Heide and John, 1990; Lyons et al., 1990). Specifically, higher levels of relationship continuity represent a distinct departure from conventional relationships. Clearly, buyer-supplier relationships are multidimensional in nature (Ford, 1990; Noordewier et al., 1990), and their time dimension constitutes only a single facet. We choose in our present study to focus on this particular dimension for two main reasons. First of all, as argued previously, the time dimension serves to contrast the newer relationships from the traditional "arm's-length" interaction patterns. Secondly, as will be shown later, relationship continuity has particular safeguarding and adaptation qualities that allow us to test a series of transaction cost predictions.

Research Hypotheses As outlined in the previous section, the general recommendation for organizing supplier relationships that follows from transaction cost theory is to develop structures to match the specific transactional characteristics that exist. The presence of specific assets requires that safeguards be put in place, and uncertainty requires the design of adaptation mechanisms. From a transaction cost perspective, when relationships are appropriately structured to match the relevant antecedent conditions, performance should be enhanced. Consider a specific example, involving an industrial buyer's investments in specific assets dedicated to a particular supplier. As shown in previous studies, a firm may safeguard its investment by purposely developing longer-lasting relationships with the relevant exchange partner (Heide and John, 1990;Joskow, 1987). However, these studies have limited themselves to demonstrating that firms actually structure relationships in accordance with the TCA prescription and have failed to exam-

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ine whether appropriately structured relationships have performance implications. A complete TCA line of reasoning would suggest that firms who match the presence of supplier-specific assets with an appropriate governance choice, i.e., longer-lasting relationships, should observe a positive effect on performance. There are a number of rationales underlying this expectation. First of all, transaction-specific assets are by their very nature specialized to a focal exchange relationship and tend to be highly productive (Jones and Hill, 1988). The presence of an appropriate safeguarding mechanism enables the firm to safely invest in such assets, which might not otherwise be deployed. In the absence of such safeguards, the value of the buyer's assets might be expropriated (Klein et al., 1978), which ultimately would reduce the buyer's returns from the relationship. In our particular context, expectations of continuity serve as a safeguard, by virtue of the extended time horizon that exists. In effect, a "shadow of the future" (Axelrod, 1984) is created, which serves as a credible threat of retaliation in subsequent time periods if opportunism occurs. As such, expectations of continuity serve as a restraint on opportunism, and as a safeguard for specific assets. We propose the following hypothesis: HI: Under conditions of high supplier-specific assets, rela-

tionship continuity will have a positive effect on performance. Statistically, Hypothesis 1 proposes an interaction between specific assets and continuity on performance, consistent with TCA. As an additional hypothesis, we propose that the presence of specific assets in and of themselves, will undermine performance. Essentially, transaction-specific investments represent a "hold-up" potential (Rubin, 1990), and in the absence of appropriate safeguards permit the other party to take advantage of the situation and extract concessions such as price increases (Klein et al., 1978). This, in turn, will reduce the buyer's returns from the relationship. We therefore propose a negative main effect of buyer's specific assets on performance. H2: Buyers' investments in supplier-specific assets will decrease relationship performance. Turning to the effects of volume unpredictability, we expect a similar pattern of results. First of all, we expect a contingent effect of unpredictability and continuity on performance, for a number of reasons. As mentioned earlier, unpredictability is a form of uncertainty, which in a general sense gives rise to an adaptation problem or potential costs associated with making changes in the relationship as events unfold. One strategy for dealing with this form of uncertainty is to design mechanisms for sequential decision-making within a given relationship (Bleeke and Ernst, 1991). Strong continuity expectations may serve this function. First of all, when expectations of relationship continuity prevail, it enables a firm to economize on costs associated with writing complex contingent claims contracts ex ante. Furthermore, the knowledge that furore transactions are forthcoming enables the parties involved to adapt to unanticipated changes without fear of exploitation.

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Again, the "shadow of the future" serves as a constraint on any individual party's tendency to exploit unexpected events for short-term (unilateral) gain (Axelrod, 1984). Essentially, expectations of continuity can be expected to reduce the cost associated with making changes, as well as improve the resource allocation and decision-making structure in the relationship (Jones and Hill, 1988). The following hypothesis can be stated: H3: Under conditions ofhigh volume unpredictability, relationship continuity will have a positive effect on performance In a similar fashion to specific assets, we will hypothesize that volume unpredictability in itself will decrease performance. That is, if no adaptation mechanism is crafted, the costs of making changes in response to unanticipated events will undermine the returns a buyer derives from the relationship. Expressed in contingency theory terminology (Schoonhoven, 1981), environmental conditions like uncertainty will adversely affect performance unless appropriate structural arrangements are designed to deal with them. This translates into a proposed negative main effect of unpredictability on performance.

J.B. Heide and R. L. Stump

in this setting and that the theoretical constructs in question lent themselves to operationalization in the context at hand. As will be explained in further detail, the decision was made to collect data from the manufacturer (buyer) as well as from the supplier side of the dyad in order to assess the quality of the measures obtained. Drafts of the buyer and supplier versions of the questionnaire were developed, based on existing scales and the earlier field investigations, and personally administered to a number of OEM and supplier sites in the relevant SIC categories. The revised questionnaires were then subjected to a larger-scale mail pre-test prior to the administration of the main survey. No particular problems with measures or response formats were revealed.

Measures The measurement approach for each of the theoretical constructs in our model is described briefly below. Table 1 contains a description of response formats as well as sample items for each scale. The specific assets scale describes the buyer's investment in specialized assets and procedures that are idiosyncratic to a particular supplier relationship. The actual items used are based on the ones developed by Anderson (1985), modified to reflect the particular context at hand. BUYER-SPECIFIC ASSETS (BUYINV).

H4: Volume unpredictability will decrease relationship performance. In addition to our focal theoretical variables discussed previously, we also included in our model three additional variables that were expected to impact performance. Although not of focal interest in their own right, they represent aspects of the buying situation that should be included for model specification purposes. First of all, a measure of annual purchase volume was included. The underlying rationale for this variable is that buyers who account for large volumes may be able to obtain superior performance by virtue of the power available to them. Secondly, components that somehow are more important to the buyer may be associated with higher levels of performance. Finally, the historical length of the buyer-supplier relationship may contribute to performance, because firms in older relationships have had an opportunity to coordinate their activities and align their interests.

Methodology Context and

Sampling Strategy

Purchasing relationships between OEM manufacturers and their component suppliers were chosen as the empirical setting for the study. Specifically, we restricted ourselves to manufacturers in the three two-digit SIC major groups 35, 36, 37 (general machinery, electrical and electronic machinery, and transportation equipment) in order to obtain a certain amount of variance in our theoretical variables, while simultaneously limiting extraneous sources of variation. Preliminary field investigations based on plant visits and industry conferences confirmed our expectations that the processes implied in our model existed

The items comprising this scale describe the inability to forecast in an accurate fashion the demand for the components in question. It is based on the scale originally developed by Walker and Weber (1984).

VOLUME UNPREDICTABILITY (VOLUNP).

CONTINUITY EXPECTATIONS (CONT). This scale indicates the buyer's perception that both parties expect to continue the exchange into the future. It does not measure the buyer's attitude or desire to continue the relationship, but rather his or her perception of the bilateral expectations that exist with respect to continuity. Furthermore, this is a separate concept from historical relationship length and formal contract duration. Although these three concepts will tend to be positively related, there is no necessary association between them (Gottfredson and White, 1981; Macaulay, 1963; MacNeil, 1980). Essentially, past length is an insufficient condition in itself for safeguarding and adaptation to take place. Furthermore, crafting a long-term contract will expand a relationship's time horizon, but it also involves a distinct end point that permits "endgaming," or opportunism prior to termination. For safeguarding and adaptation purposes, continuity expectations or relationship openendedness is the key time dimension (Axelrod, 1984). PERFORMANCEEVALUATIONS(PERFEV). This scale describes the buyer's evaluation of the given supplier relationship. The individual items comprising the scale were compiled based on the performance studies by Segal (1989), Smith and Prescott (1987), and a recent survey conducted by Purchasing (1988).

Buyer-Supplier Relationships

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Table 1. Response Formats and Sample Itemsa Scale

Response Anchor

Sample Items

7-point Likert scale, "Strongly disagree/ Strongly agree"

We have made significant investments in tooling and equipment dedicated to our relationship with this supplier. Our production system has been tailored to using the particular items bought from this supplier.

Volume unpredictability (VOLUNP)

7-point Likert scale, "Predictable/ Unpredictable"

Industry sales volume for end product. Your company's sales volume for end product.

Continuity expectations (CONT)

7-point Likert scale, "Completely inaccurate description/completely accurage description

The parties expect this relationship to last a long time. The parties make plans not only for the terms of individual purchases, but also for the continuance of the relationship.

Performance evaluations

7-point Likert scale, "Poor performance relative to industry norm/good performance relative to industry norm"

Adherence to specifications.

Buyer-specific assets

(BUYINV)

(PERFEV)

Delivery performance.

aBuyerversionof scale items shown.

The scale construction procedure in this case involves itemizing the entire domain of performance, and subsequently combining all of them into a composite index. In this case, the performance construct is defined as the sum of the items, which technically makes it a formative, as opposed to the more common reflective scale type where the items are viewed as caused by an underlying construct (Bagozzi and Fornell, 1982). The other measures included: (1) a measure of the annual dollar purchases from the supplier ($PURCHASE), (2) the percentage of the end product value represented by the purchased component (%VALUE), and (3) the historical length of the supplier relationship (LENGTH).

30% of the 579 mailed out. After the elimination of cases that contained excessive amounts of missing data or in which the informant exhibited insufficient scores on the post hoc informant checks, the final sample of buying firms consisted of 155. Nonresponse bias was evaluated by comparing early with late respondents following Armstrong and Overton's (1977) procedure. No significant differences were found on variables like sales volume, number of employees, and value of purchases, suggesting that nonresponse bias may not be a problem in this study. However, a stronger test of nonresponse would have been to actually contact nonrespondents, and subsequently carried out a specific comparison between respondents and nonrespondents.

Data Collection: Buyer Sample The initial sampling frame was a national mailing list of purchasing agents/directors representing manufacturing firms in the two-digit SIC major groups 35, 36, 37. A random sample of 1,157 names was drawn from the sampling frame, and subsequently contacted personally by phone with the purpose of locating the relevant key informant in the company according to Campbell's (1955) criteria. Although past research has questioned the ability of key informants to report on organizationlevel phenomena (e.g., Phillips, 1981), there is evidence that valid measures can be obtained if appropriate selection procedures are followed (John and Reve, 1982). Based on the pre-survey contact, 579 informants were identified who met Campbell's (1955) criteria and also consented to participating in the survey. Each informant was subsequently mailed a questionnaire and requested to complete it with respect to a particular supplier about whom he or she was knowledgeable. As an additional step toward minimizing informant bias, each questionnaire included post-hoc self-reports on the informant's involvement and knowledge about the supptier relationship. After call-backs and a second mailing, 175 questionnaires were received from the buyers, approximately

Data Collection: Supplier Sample In order to identify the corresponding key informant in the supplier's firms, the informants from the buying firms were contacted again and asked to identify a contact person within the supplier's firm who was in a good position to describe the firm's relationship with the buyer. Overall, 96 names were obtained, and subsequently contacted by phone in order to verify their ability to serve as key informants. After call-backs and second mailings, 61 usable questionnaires were returned and 60 judged to be usable for further analysis based on the post-hoc informant check.

Measure Validity and Hypothesis Tests Measure Validation Procedure For the three reflective scales (BUYINV, VOLUNP, CONT), each set of items was initially subjected to an examination of itemto-total correlations, in order to identify items that did not belong to the appropriate domain. The resulting pool of items was subsequently subjected to a confirmatory factor analysis in order to verify a single factor structure. The different fit indices

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J.B. Heide and R. L. Stump

Table 2. Properties of Multi-Item Scales Scale

Number of Items

Fit Indices

c~

Buyer-specific assets (BUYINV)

6

x2(9) = 29.33 p = .001 GFI = 0.94 RMSR = 0.06

0.81

Volume unpredictability (VOLUNP)

3

a

0.72

Continuity expectations (CONT)

4

x2(2) = 17.23 p = .000 GF1 = 0.95 RMSR = 0.04

0.88

Performance evaluations (PERFEV)

9

aTrivial fit for three-item scale. b Formative index.

from LISREL VI (Joreskog and Sorbom, 1985) shown in Table 2 indicate an adequate fit to the data. Furthermore, the estimated coefficient alphas for the item sets show satisfactory evidence of internal consistency (Nunnally, 1978). Given the formative nature of the performance scale, tests of unidimensionality were inappropriate and were not carried out. An additional step in the measure validation process involved comparing the obtained measure from the sample of buyers with the corresponding report from the supplier sample. Basically, convergence between the dyadic informant reports across the buyer-supplier dyad provides evidence about the quality of the measures from the buyer. For the 60 cases in which dyadic data had been obtained, the correlation between the informant reports for buyer-specific assets, continuity expectations, and volume unpredictability were 0.33, 0.35, and 0.12, respectively. The first two correlations are significant at p ~< .05, whereas the correlation for unpredictability is insignificant. The lack of convergence among the informant reports may be explainable in part by the nature of the construct involved. As argued by some theorists (e.g., Weick, 1969; Pfeffer and Salancik, 1978), perceptions of uncertainty may be quite idiosyncratic because organizational environments may be more appropriately described as "enacted" at the level of individuals, as opposed to existing as shared objective conditions. To the extent that enactment takes place, it should account for divergence across interfirm dyads to a larger extent than for other constructs. Ideally, the validity of these data should have been examined by means of a confirmatory factor analysis, in order to examine explicitly the extent to which the observed scores are attributable to the underlying trait, random error, and to the unique "viewpoints" of the parties involved. As shown in previous research (e.g., Bacharach and Lawler, 1980), the individual parties to a relationship tend to have somewhat unique perspectives on the ongoing interaction, resulting from their particular positions in the exchange network. For measurement

purposes, this implies that each informant's report is influenced in a systematic fashion by his or her unique perspective or "viewpoint" in addition to the nature of the focal trait. In practice, this will attenuate the raw correlations between the informant reports. Unfortunately, our present sample of dyadic reports is too limited to estimate a factor structure that accounts specifically for the different sources of variance. Nevertheless, the general extent of agreement between the informant reports is encouraging, in particular considering the attenuating effect of each party's unique viewpoint. The performance scale was subjected to a different validation procedure. Given that performance in the present study was measured in terms of the buyer's evaluation of the supplier relationship, the scale was only administered to the buyer side of the dyad. As a consequence, no opportunity exists for evaluating the convergence of this measure across the dyad. However, in a very small number of cases (n = 21), we were able to locate a second informant within the buyer's own firm. Although the small sample size precludes a more systematic multitrait, multimethod assessment, the correlation between the two informants from the same company with respect to the performance measure equals 0.510 (p < .001), which provides evidence of the quality of our measure.

Test of Hypotheses The hypotheses described previously were tested by estimating an ordinary least squares (OLS) regression model. Specifically, the model involved regressing performance evaluations (PERFEV) against buyer-specific assets (BUYINV), volume unpredictability (VOLUNP), continuity expectations (CONT), the interaction between specific assets and continuity expectations (BUYINV * CONT), the interaction between volume unpredictability and continuity expectations (VOLUNP * CONT), and the three control variables; purchase volume ($PURCHASE), percentage of end product volume represented by the component (%VALUE), and past relationship length (LENGTH). Table 3 shows the estimated parameters and associated t-statistics. As can be seen, the results are generally supportive of our hypothesis. First of all, as predicted by Hypotheses 2 and 4, both buyer-specific assets and volume unpredictability have negative effects on performance (t = -1.81, i9 = .03, and t = -2.13, p = .02, respectively). It should be noted that due to the multiplicative term in the model, these effects are not traditional main effects, but conditional effects that express the effect of a given independent variable on the dependent variable when the other variable in the interaction term equals zero (Jaccard et al., 1990). For instance, b l in our present model reflects the effect of specific assets on performance when no continuity expectations are present. The negative effect shows that specific assets undermine performance in the absence of appropriate safeguards. Furthermore, both of the interaction terms are significant and positive, consistent with Hypotheses i and 3 (t = 1.53, p = .06 and t = 1.91, p = .03, respectively). Consistent with TCA predictions, the design of an appropriate safeguarding and

Buyer-Supplier Relationships

dPERFEV

Table 3. Estimated Model-Dependent Variable:

= -.157 + .061 (BUYINV) + .087 (VOLUNP)

Performance Evaluations (PERFEV) Independent Variables

Constant BUYINV VOLUNP CONT BUYINV*CONT VOLUNP*CONT $PURCHASE LENGTH %VALUE R2adj -- 0.22 F(8,134) - 6.02 a

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Unstandardized Coefficient

6 801 -0.424 - 0.566 -0.157 0.061 0.087 0.000 0.000 0.003

dCONT

t-Value

5.40 a - 1BI b - 2.13 b -0.72 1.53 c 1.91b 1.68 b 0.04 1.18

aSignificant at p < .001 (one-tailed test). bSignificant at p < 0 5 (one-tailed test). CSignificant at p < .10 (one-tailed test).

adaptation mechanism under conditions of specific assets and uncertainty has a positive impact on performance. The contingency propositions underlying Hypotheses 1 and 3 can be examined more formally by graphing the partial derivative of the regression equation following the procedure suggested by Schoonhoven (1981). In Figure 1 the partial derivative of performance with respect to continuity is graphed over the range of specific assets and volume unpredictability, respectively, holding the other condition constant. As can be seen from the first graph, continuity only has a positive effect on performance for relatively high levels of specific assets. For low levels of specific assets, continuity actually diminishes performance. A similar pattern can be observed for volume unpredictability. Basically, whenever a safeguarding or adaptation problem does not exist, as evidenced by low levels of specific assets and unpredictability, continuity is not of value. Of the control variables, only annual purchase volume has a positive impact on performance (t = 1.68, p = .05).

Implications To the best of our knowledge, with the exception of two prior studies (Heide and John, 1988; Noordewier, John, and Nevin, 1990), this research represents the only attempt to explicitly examine the performance implications of transaction cost theory. From a theoretical perspective, our results generally confirm the normative predictions of TCA. Firms that followed the theoretical prescriptions of crafting safeguarding and adaptation mechanisms under conditions of specific assets and uncertainty were able to enhance transactional performance. At the same time, our results also show that structuring relationships should be done in a discriminating fashion. As implied in transaction cost theory, developing safeguarding and adaptation mechanisms represents the implementation of a specialized goverance structure (Williamson, 1985), which is only required under particular conditions. Our results show that

dPERFEV

dCONT +.5

/

/

I

I

1

2

_>--s--- i I

I

3

4

i

J I.

6

7

BUYINV -.5

5

dPERFEV

dCONT +.5

J~ I

I

VOLUNP -.5

1

2

3

4

5

6

7

1. Contingency effects: the impact of unpredictability (VOLUNP) and buyer-specific assets (BUYINV) on the relationship between continuity (CONT) and performance (PERFEV). Figure

continuity only has a positive effect on performance for high levels of uncertainty and specific assets, or in other words, whenever some form of "transactional difficulty" exists. For low levels of these conditions, continuity was shown to have a low or even negative impact on performance. From a managerial perspective, the results of this study are of interest because they demonstrate the potential viability of organizing relationships in a cooperative, as opposed to in a competitive fashion. Competitive approaches to relationship management have historically been the norm in many industrial markets, and are also at the core of the extant decision models in the management literature (e.g., Porter, 1980). Although recent evidence suggests that cooperative forms of buyer-supplier interaction are becoming increasingly common, no study to date has formally examined their implications. In fact, industry observation suggests that crafting inter firm linkages may not always be appropriate (Porter and Fuller, 1986, Spekman, 1988), and may introduce a variety of problems in its own right. Our present study draws upon transaction cost reasoning to identify two particular conditions under which abandoning "arm's-length" interaction may be desirable, viz. the presence of transaction-specific assets and uncertainty. Our results show

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that transactional performance under such conditions can be enhanced by increasing a relationship's time dimension. However, our results also show that structuring relationships in this fashion is not desirable per se. In fact, relationship continuity was shown to have limited or even a negative effect on performance in the absence of uncertainty and specific assets. From these findings, the general recommendation is that relationships should be organized in a selective fashion, based on careful attention to the existing conditions.

Limitations and Future Research Some limitations of the present study should be pointed out. First of all, we have limited ourselves to examining a single relationship dimension that was hypothesized a priori to have particular safeguarding and adaptation qualities, viz. continuity expectations. Clearly, however, purchasing relationships are multidimensional in nature (Dwyer, Schurr, and Oh, 1987), and other dimensions may exist with equal or superior qualities to the one examined in this study. One useful avenue for future research is to identify other relationship dimensions and to explore their implications. Another recognized limitation of the present study is our treatment of continuity expectations as an exogenous variable. In other words, although we presented continuity expectations as a key aspect of buyer-supplier relationships, no effort was made in the present study to identify its antecedent conditions. Interestingly, as noted by Bradach and Eccles (1989), the issue of how expectations of future interactions arise is also ignored in Axdrod's (1984) original analysis of iterated games. According to Bradach and Eccles (1989), parties may form expectations about the future based on aspects of their past and present interaction. To date, however, the specific manner in which continuity expectations are established has not been systematically examined. At the same time, the potential determinants of continuity expectations raises a series of interesting research questions. First of all, in rdationships with foreign suppliers differences in cultural context may prevent strong continuity expectations from being formed. Specifically, the buyer and supplier in question may be "embedded" in widely different norm and value systems (Granovetter, 1985; Macaulay 1963). In such instances, continuity expectations may have to be ddiberately crafted, for instance by taking or exchanging "hostages" (Borys and Jemison, 1989), for instance in the form of transaction-specific assets. On a somewhat related note, there are certain types of relationships where continuity expectations may be absent by default, and other safeguarding and adaptation mechanisms may as a consequence need to be purposely designed. For instance, many types of international alliances such as licensing agreements and certain types of joint ventures are designed to have a predetermined life expectancy (Bleeke and Ernst, 1991; Borys and Jemison, 1989). Recall, however, that the previously discussed effects of continuity expectations are due to the existence of an open-ended or infinite time horizon for the future

J.B. Heide and R. L. Stump

interactions (Axelrod, 1984). In instances where a fixed time horizon exists, a potential for "end-gaming" behavior exists, and other governance mechanisms will have to be purposely put in place. Hopefully, future research will be directed toward exploring the different governance mechanisms used in different types of relationships. Another recognized limitation of the present study is that interfirm relationships may be established for other reasons than a desire to enhance transactional efficiency (Oliver, 1990). Specifically, interfirm relationships may be established for more direct strategic reasons such as a desire to erect entry barriers, foreclose market or supply access, or facilitate the transfer of technology (Business Week, 1986b; Kogut, 1988; Powell, 1990). However, as noted by Williamson (199 lb) and Jarillo (1988), economizing will in most circumstances be of importance, and transaction cost considerations may need to be considered explicitly. Furthermore, our present study provides limited insight into the ongoing management of supplier relationships and the effects of such relationships on a buying firm. One particularly important question is what the implications are of establishing certain types of supplier relationships on the interaction between different functional areas within a buyer's firm. Although some researchers have started examining such issues (Spekman and Johnston, 1986), there is a strong need for further research. For instance, under conditions where a b w e r is closely linked with an external supplier, some of the supplier's staffmembers may over time become actively involved in the buyer's internal decision-making processes. This, in turn, may alter the nature of the buyer's organizational arrangements and increase the potential for intrafirm conflict (Ruekert and Walker, i987). Another important question has to do with the implications of establishing certain types of supplier relationships on future purchasing decisions. For instance, it is conceivable that the presence of a close relationship with a supplier may influence a buyer's subsequent decision whether to source internally or from an external supplier (Lusch, Brown, and Brunswick, 1992). On a somewhat similar note, a largely explored issue is how buyers manage portfolios of supplier relationships. Although some interesting conceptual frameworks have been developed (e.g., Krapfel, Salmond, and Spekman, 1989), additional research appears to be needed.

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