What accounts for plural forms of governance structure in the same industry or firm--the case of the Brazilian Electricity Industry.
| Autor | Lopes, Daniel |
| Cargo | Report |
Abstract
Governance structures are described as a spectrum with the market and vertical integration as its poles. During the past decades, the theoretical and empirical work aligned with New Institutional Economics sought to understand the factors that determine which transactions will run through the market and which will run within the firms. However, the existence of plural forms of institutional arrangements in the same productive chain defies logic theories that study the vertical borders of the firms. Thus, the goal of this article is to investigate these plural forms in the Free Contracting Environment of the Brazilian Electricity Industry. We used a qualitative approach and resorted to a case study strategy in order to understand the adoption of distinct governance structures within a single transaction. Our analysis suggests five propositions that can be tested. Theses propositions are related to manager's background, market price volatility, legal delays, type of ownership and institutional environment, and effects of innovation on the governance structure.
Key words: plural forms; governance structure; vertical boundaries; transaction cost economics; measurement cost theory.
Introduction
Governance structures are described as a spectrum with the market and vertical integration as its poles. During the past decades, the theoretical and empirical work aligned with New Institutional Economics (NIE) sought to understand the factors that determine such decisions (Joskow, 2008). The NIE considers that the minimization of transaction costs is the main factor that influences the choice of one of the forms of governance structure at the expense of the other (Williamson, 1996). However, the coexistence of governance structures for the same type of transaction in the same sector or even within the same firm is still a major puzzle in governance structures agenda and has not been studied enough.
Recently, Leite and Castro (2010) conducted research on the Brazilian electricity industry's governance structure. Their results show a remarkable plurality of governance structures in the sector. Some companies were reported as totally vertically integrated and others were operating in only one of the chain segments - generation, transmission, distribution, and commercialization - and resorting to contracts to run their operations. This surprising evidence makes us question what could be the explanations for this plurality of governance structures in this sector.
The electricity industry remained under Brazilian government ownership until the privatization process of utility companies in the 1990s. This market liberalization process was a consequence of constraints faced by public finances and the skepticism about the State's ability to operate efficiently (Correia, Melo, Costa, & Silva, 2006). However, despite private actors' participation, State regulation continued to have a central role in the industry. Through the concessions policy in the distribution segment - which established monopolies for the supply of energy in each region of the country - the State denied the possibility of freely negotiated contracts.
In 1998, the Free Contracting Environment (FCE) was designed to introduce free competition in the energy industry (Lock, 2005). However, it was only in 2004 that the electricity sellers and large consumers were allowed decide whether to freely negotiate the exchange of energy or stay in the Regulated Contracting Environment (RCE) tied to the concessionaire supply. These reforms have caused major changes in the energy sector, and encouraged inquiries about the benefits of companies' migration to FCE and the impact of the new rules on the industry organization, investments, and transactions between firms (Leite, Castro, & Timponi, 2013).
As previously stated, despite the proposition that the best governance structure is frequently diffused, there is stability of plural forms in certain transactions. This evidence can also be seen in the Brazilian Electricity Industry (BEI). The Free Contracting Environment (FCE) of electricity is the market segment in which the purchase and sale of energy are carried out through bilateral freely negotiated contracts. Similarly to other markets, the energy trading in the FCE has adopted sophisticated plural forms of governance structures which call for an investigation about their determinants. Thus, the aim of this paper is to examine the coexistence of plural forms of governance structures in the Free Contracting Environment (FCE) of the Brazilian Electricity Industry.
Our analysis suggests five propositions that can be tested. These propositions are related to the manager's background, market price volatility, legal delays, type of ownership and institutional environment, and effects of innovation on the governance structure. Therefore, we organized the article as follows: after this introduction we present the theoretical background about governance structures followed by a brief exposure to transaction cost economics and measurement cost theory; the next section explains the methodological procedures; then, we present the descriptive results followed by discussion of each of the five propositions; finally, we make our conclusions.
Theoretical Background
The governance structures
The study of vertical boundaries of organizations was founded in Ronald Coase's article The Nature of the Firm. Coase (1937) explains that outside a firm, the movement of prices directs the production through a series of transactions. However, inside a firm these market transactions are eliminated and, instead of this complex structure of exchanges, it is the entrepreneur who plays the role of production coordinator. The central issue of vertical limits of firm studies is to comprehend when it is most interesting to produce under the direction of a hierarchy and when it is most interesting to let the market, through the price mechanism, coordinate production.
The literature on the vertical boundaries of firms generally presents a dichotomy between the decision to make--internally - or buy in the market. However, it is possible to identify a variety of governance structures. At one end of the spectrum is the arrangement through the market, where ordinary operations - such as commodity transactions - are conducted anonymously (P. G. Klein, 2000). This mechanism is the main structure for transactions that do not require specific investments or systemic coordination (Langlois, 1992). Within the market, prices provide incentives for the discovery of profit opportunities and then entrepreneurs are quick to adapt to changes in relative prices of these transactions (Kirzner, 1978). Thus, competition between firms protects the transaction parties from opportunistic behavior of their peers.
Hybrid governance structures (e.g., franchises, joint ventures, and take-or-pay contracts) are mechanisms placed between market and hierarchy, which can protect firms from opportunistic behavior. Firms choose a hybrid arrangement in order to achieve some hierarchical coordination and protection for specific investments, maintaining the incentives of market relations (P. G. Klein, 2008).
Finally, vertical integration has the advantage of sequential adaptations without the need for renegotiation (Williamson, 1985). However, Joskow (2008) points out that vertical integration should not be taken as costless. Notwithstanding, the NIE considers that the minimization of transaction costs is the main factor that influences the choice of one of the forms of governance structure at the expense of the other (Williamson, 1996).
As stated before, there is empirical evidence that a single governance structure is not always found within the same industry--even the same firm--for the same transaction. The existence of plural forms of governance structure has been treated by authors as a contractual mix, where the decision of the contractual design goes from make or buy to make and buy (Raynaud, 2008). One of the pioneering studies (Bradach & Eccles, 1989) used franchised and owned retails as examples of plural forms. More recently, when looking into franchised and owned hotel chains, Botti, Briec and Cliquet (2009) found no statistical evidence that the governance structures of the chains differ in efficiency.
The first explanation for the coexistence of plural forms may be the difference between institutional environmental incentives offered by each region. When these institutional distinctions are not observed, the adoption of multiple arrangements may be justified as a transitional situation in which firms implement different governance structures and over time migrate to the more efficient of them. The time between the adoption of plural forms and the convergence into a single efficient governance structure is treated as the rate of diffusion of the arrangement. However, longitudinal studies indicate stability in the evidence of plural forms in certain transactions (Zylbersztajn & Nogueira, 2002).
Menard (2013) provides a list of existing explanations for the coexistence of plural forms that include technological diversity, innovation-oriented solutions, lack of financial provisions, informational benchmarking--also supported by Heide (2003)--, credibility of termination to put pressure on partners likely to be opportunistic, and lastly, knowledge-gathering reasons. By integrating these explanations with the transaction cost approach, Menard (2013) suggests a framework of three determinants to explain plural forms: ambiguity about the best fit of organization mode; complexity of a transaction; and strategic behavior.
In order to comprehend the role of transaction costs in the choices of governance structures is necessary to highlight that there is no single definition of transaction costs (Eggertsson, 1990). The most ordinary definition is that transaction costs are the costs of resorting to the market (Coase...
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