Estimating Value Creation from Revealed Preferences: Application to Value‐based Strategies

• Published date: 01 October 2017
• Author: Olivier Chatain,Denisa Mindruta
• DOI: http://doi.org/10.1002/smj.2633
• Date: 01 October 2017

Strategic Management Journal

Strat. Mgmt. J.,38: 1964–1985 (2017)

Published online EarlyView 15 February 2017 in WileyOnline Library (wileyonlinelibrary.com) DOI: 10.1002/smj.2633

Received 1 March 2013;Final revisionreceived 7 December 2016

Estimating Value Creation from Revealed Preferences:

Application to Value-based Strategies

Olivier Chatain*and Denisa Mindruta

Strategy and Business Policy, HEC Paris, Jouy-en-Josas, France

Research summary: We develop and apply a new set of empirical tools consistent with the tenets

of value-based business strategies, leveraging the principle that “no good deal comes undone”

and the methods of revealed preferences, to empirically estimate drivers of value creation. We

demonstrate how to use these tools in an analysis of value creationin buyer –supplier relationships

in the UK corporate legal market. We show that our approach can uncover evidence of subtle

mechanisms that traditional methods cannot easily distinguish from each other. Furthermore, we

show how the estimates can be used as parameters of biform games for out-of-sample analyses of

strategic decisions. Withreadily available data on relationships between rms, this approach can

be applied to many other contexts of interest to strategy researchers.

Managerial summary: Managers need to understand the drivers of value creation for customers

in order to make competitive positioning decisions and understand when they can capture value

under competition. However, estimates of the relative importance of each driver are typically

difcult to obtain. In this article, we help remedy this problem by demonstrating a novel method

that obtains estimates of the contribution of various drivers of value creation from commonly

available data of buyer– supplier relationships. These estimates can then be used to inform the

strategy-making process. Copyright © 2017 John Wiley & Sons, Ltd.

Introduction

The notions of value creation and value capture,

as introduced to strategic management by Bran-

denburger and Stuart’s (1996) value-based theory,

have become a unifying framework for theoriz-

ing about rm heterogeneity and competition in

competitive strategy research. For instance, use of

these notions was instrumental in clarifying cen-

tral theoretical concepts in the resource-based view

(Hoopes, Madsen, & Walker, 2003; Leiblein, 2011;

Lippman & Rumelt, 2003). By jointly analyzing

Keywords: buyer–supplier relationships; client-specic

economies of scope; cooperative game theory; revealed

preferences; value-based strategy

*Correspondence to: Olivier Chatain, HEC Paris, Strategy and

Business Policy Department, 1 rue de la Libération, 78350

Jouy-en-Josas, France. E-mail: chatain@hec.fr

Copyright © 2017 John Wiley & Sons, Ltd.

value creation and value capture, the value-based

framework has provided a structure for linking rm

performance and demand characteristics (Adner &

Zemsky, 2006; Priem, 2007) and has led to novel

insights on how value is captured under compe-

tition (MacDonald & Ryall, 2004). This frame-

work has been used to study drivers of strategic

advantages in various contexts such as factor mar-

kets (Adegbesan, 2009), product markets (Chatain

& Zemsky, 2011), incentive contracts (Obloj &

Zemsky, 2015), and networks (Ryall & Sorenson,

2007).

Given the uptick in applied theorizing offered

by the value-based framework, the development

of empirical methods specically tailored to it

could greatly benet strategy researchers and

practitioners. Yet, a chasm remains between the

theoretical advances building on Brandenburger

and Stuart (1996, 2007) and the empirical work

Estimating Value Creation from Revealed Preferences 1965

adopting such value-based lens. A prominent

limitation is the inability of mainstream empirical

methods to identify and estimate parameters of

the underlying formal models. Past empirical

studies have worked around this problem by

relying on proxies of a player’s added value1

(Adegbesan & Higgins, 2011; Chatain, 2011; Jia,

Shi, & Wang, 2012; Obloj & Capron, 2011) and

bargaining abilities (Bennett, 2013). These studies

nd patterns consistent with value-based theory,

but still fall short of estimating parameters of the

theoretical models that generated the empirical

predictions.

We argue that to fully exploit the richness of

value-based theoretical models, empirical estima-

tion can move beyond corroborating implications

of the models to estimating the parameters of the

underlying models. Further, researchers equipped

with parameter estimates could use the formal mod-

els to provide quantitative answers about conse-

quences of strategic actions, such as: What are the

returns to improving value creation capabilities?

What would happen if a new player entered the

competitive interaction? What change in the com-

petitive environment would most benet or threaten

a given rm? To reach this goal, scholars need an

empirical toolbox that incorporates the assumptions

of the value-based theory and provides estimates

consistent with it.

By developing such a toolbox, this article’saim is

to put the empirical development of the value-based

framework (Brandenburger & Stuart, 1996, 2007;

MacDonald & Ryall, 2004) on a par with its theo-

retical base. Its main contribution is to propose and

demonstrate an estimation method derived from

the rst principles of the value-based framework

due to Brandenburger and Stuart (1996, 2007) that

yields estimates consistent with the assumption

of competitive behavior, instead of taking existing

econometric methods and imperfectly mapping the

value-based framework onto them. The method

was originally developed for cooperative game

theory models known as matching games (Fox,

2008, 2010), and has been recently applied in the

strategic management literature to study alliances

1In the value-based framework, both added valueand bargaining

ability matter to value capture. The added value of a player is

the value that would be lost if the player withdraws from the

interaction (Brandenburger & Stuart, 1996). Residual bargaining

ability (Brandenburger & Stuart, 2007) is a player’s ability to

capture value when competition leaves a range of value to be

negotiated between rms.

(Mindruta, 2013; Mindruta, Moeen, & Agarwal,

2016) while also nding notable applications in

marketing (Yang, Shi, & Goldfarb, 2009) and

corporate nance (Akkus, Cookson, & Hortaçsu,

2016). We illustrate howit can be further developed

to estimate value creation in formal models based

on biform games and show how empirical estimates

can be leveraged in a model of value capture. This

approach is practicable with data that is typically

available to strategy researchers, allowing for a

wide scope of potential applications.

In the application we describe here, this approach

provides deeper insights on the nature of benets

of client-specic scope extensions in a setting

where prior studies have suggested their impor-

tance. Earlier work (Chatain, 2011) speculated

that client-specic economies of scope were

largely due to increased value creation occurring

from better coordination across tasks. This article

advances on Chatain (2011) by using data at

a ner level of analysis (supplier– buyer– task

nested in supplier– buyer ties), accounting for the

endogeneity of the observed matching thanks to

the improved method, and adding more exibly

to the identication of the effect of client-specic

scope. The estimates allow for disentangling the

relative importance of different mechanisms that

can explain seemingly similar patterns in the data.

We observe that the positive correlation between

client-specic scope and value capture found

by Chatain (2011) is the result of the interplay

between two opposite forces: the leveraging of

costly-to-create relationships, which favors wider

scope, and a net cost of extending the scope of

existing ties, which favors narrower scope. We nd

that the benets of a client-specic scope extension

are due to the high cost of creating a relationship in

the rst place rather than direct synergies between

tasks. Such a ne-grained difference in ndings and

interpretation could only be brought about because

of our use of a more theoretically consistent

method.

The article is organized as follows: In the next

section, we argue the advantages of tightly inte-

grating theory and empirical work for value-based

empirical studies. We then use an example to

explain the principles on which our proposed

method is based. Finally, we apply the method

to the study of value creation in buyer–supplier

relationships and illustrate how several questions

of interest to strategy scholars can be answered

with this approach.

Copyright © 2017 John Wiley & Sons, Ltd. Strat. Mgmt. J.,38: 1964–1985 (2017)

DOI: 10.1002/smj