The Effect of Conflict Resolution Mechanisms and Environmental Uncertainty on Joint Venture Performance

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The Effect of Conflict Resolution Mechanisms and Environmental Uncertainty on Joint Venture

Performance

Final version

Name: Daphne Ikink

Student number: 11061448

Date: 17-06-2021

Study: MSc. in Business Administration – Strategy Track

Institution: ABS, UvA

Supervisor: Dr. E. Klijn

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2 Statement of Originality

This document is written by Daphne Ikink who declares to take full responsibility for the contents of this document.

I declare that the text and the work presented in this document are original and that no sources other than those mentioned in the text and its references have been used in creating it.

The Faculty of Economics and Business is responsible solely for the supervision of completion of the work, not for the contents.

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3 Abstract

Since JVs experience high levels of behavioral uncertainty and opportunistic behavior, 40 to 60% of JVs fail (Park & Ungson, 2001). To reduce the chance of failure, effective alliance governance is of major importance and the design of conflict resolution mechanisms could play a pivotal role in this (Mohr & Spekman, 1994). More specifically, the complementary or substitutionary effects of contract based and board based conflict resolution mechanisms has been neglected in existing literature on formal governance. Moreover, environmental

uncertainty can affect the performance consequences of certain conflict resolution mechanisms, since in the presence of uncertainty the objectives of partners are more frequently misaligned (Klein et al., 1990). Nevertheless, this effect has not yet been researched yet. This study aims to contribute to theory as well as practice by filling these existing research gaps of conflict resolution mechanisms in alliance governance research. The effect of two contract based conflict resolution mechanisms (e.g. arbitration provisions and veto rights) and one board based conflict resolution mechanism (e.g. outside directors) on JV performance has been researched in this study. Furthermore, the moderating effect of

environmental uncertainty on these relationships was researched as well. Following existing literature, a positive effect of the researched conflict resolution mechanisms on JV

performance and a positive moderating effect of environmental uncertainty on these

relationships was expected. However, a positive effect of veto rights on JV performance could not be ascertained, while arbitration provisions and outside directors even demonstrated a negative effect on JV performance. Lastly, a positive moderating effect of environmental uncertainty on the relationship between the conflict resolution mechanisms and JV performance was found for outside directors only.

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4 Table of contents

Chapter 1 Introduction ... 5

Chapter 2 Literature review ... 10

2.1 Background theory ... 10

2.2 Hypotheses development ... 12

Chapter 3 Methods ... 19

3.1 Sample and data ... 19

3.2 Variables and measures ... 20

Chapter 4 Results ... 25

4.1 Descriptive statistics and correlation matrix ... 25

4.2 Regression analyses ... 27

Chapter 5 Discussion and conclusion ... 32

5.1 Contributions and implications ... 32

5.2 Limitations and future research ... 35

5.3 Conclusion ... 36

References ... 38

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5 Chapter 1 Introduction

Over the last few decades a significant amount of research attention is focused the governance design of interorganizational collaborations (Osborn & Baughn, 1990; Parkhe, 1993; Kujala et al., 2020; Gao, 2021). Parallel to the increase in research attention, practitioners are forming interorganizational collaborations at a faster pace as well. A subset of these alliances are joint ventures (JVs). JVs are separate legal entities that are formed by two or more organizations that each have a specific interest in establishing this kind of organizational form (Harrigan, 1986; Beamish & Lupton, 2009; Ozorhon et al., 2010).

Despite the increase in the number of JVs formed, 40 to 60% of these type of

organizations fail (Park & Ungson, 1997). As a consequence, researchers have focused on the design of alliance governance as a mechanism to overcome such high failure rates (Hennart, 2008; Hagedoorn & Hesen, 2007; Li et al., 2010; Luo, 2002; Reuer & Ariño, 2007; Ryall &

Sampson, 2009). Alliance governance can be broadly divided into formal governance and informal governance (Keller et al., 2021; Hoetker & Mellewigt, 2009). Formal governance consists of binding agreements in which the intents of the contracting parties are codified (Reuer & Ariño, 2002; Wu et al., 2017). Formal governance can be seen as promises that are legally enforceable (Furubotn & Richter, 1977). Informal governance consists of non-

contractual relationships that depend on the transacting parties abiding by norms rather than legal contracts (Macaulay, 1963; Stone, 2013; Wu et al., 2017).

To date, the majority of research on formal governance and interorganizational collaborations has focused on the design of contracts (Devarakonda et al., 2019; Luo, 2002;

Hagedoorn & Hesen, 2007; Ryall & Sampson, 2009; Reuer & Arino, 2007; Li et al., 2010).

However, early research in strategy and international business has identified alternative types of formal governance, such as the structure and role of boards (Kumar & Seth, 1998; Klijn et al., 2013; Cuypers et al., 2016). Only recently scholars have started to investigate the role of

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6 boards as a formal governance mechanism (Klijn et al., 2013; Reuer et al., 2014; Reuer &

Klijn, 2020). Moreover, both the monitoring responsibility of the board as well as the opportunities that contracts provide partners to enforce specific actions, enable partners to reduce moral hazard (Kumar & Seth, 1998; Cuypers, 2016). To the extent that both boards and contracts can offer similar outcomes in reducing such behaviors, there are potential complementary or substitutionary effects possible (Klijn et al., 2013; Reuer et al., 2014).

Interestingly, there is a significant debate within the alliance literature on the substitution and complementary effects of formal and informal governance (Calabrò &

Mussolino, 2013; Kim, 2014), but less is known about the extent to which boards and contracts as two different kinds of formal governance mechanisms substitute or complement each other. This is of particular importance in JVs, since JVs experience high levels of behavioral uncertainty and opportunistic behavior, which causes 40 to 60% of JVs to fail (Park & Ungson, 2001). To reduce the chance of failure, effective alliance governance is of major importance. Consequently, the effect of alliance governance on performance has been researched substantially (Hagedoorn & Hesen, 2007; Li et al., 2010; Luo, 2002; Reuer &

Ariño, 2007; Ryall & Sampson, 2009). However, researchers mostly neglected the design of conflict resolution mechanisms in their alliance governance research, while conflict resolution mechanisms are a primary characteristic of partnership success (Mohr & Spekman, 1994).

Existing literature states that both boards and contracts play a pivotal role in conflict

resolution (Klijn et al., 2013; Reuer et al., 2014), but their complementary or substitutionary effects have not been researched yet.

Therefore, this thesis focuses on the effect of these different kinds of conflict

resolution mechanisms on JV performance. Although organizations have numerous conflict resolution mechanisms at their disposal, this thesis specifically focuses on arbitration provisions and veto rights as contract based conflict resolution mechanisms and outside

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7 directors as a board based conflict resolution mechanism. First of all, arbitration can be defined as an agreement of two or more parties to submit their claims to one or more persons chosen by them to serve as their arbitrator. These arbitrators will hear and decide upon

controversies of economic consequence arising between the parties (Sturges, 1960). Secondly, veto rights are the rights to block proposed investments, policies or other decisions (McCarty, 2000). Lastly, outside directors are non-executive directors on the board that were jointly appointed by the partners. Outside directors are not affiliated with any of the parent companies (Reuer et al., 2014). This neutral position provides outside directors with a position to monitor partner opportunism. Because numerous JVs fail due to opportunistic behavior (Park & Ungson, 2001), limiting these behaviors by including outside directors, could improve JV performance. Furthermore, outside directors could act as neutral arbiters if there is a need for conflict resolution between partners (Hewitt, 2005). The absence or presence of these three conflict resolution mechanisms are likely to affect the performance of the intraorganizational relationships, because it enables partners to resolve conflicts in a more amicable matter when these different governance resolutions are in place.

To the extent that research on formal governance has neglected the possible

complementary or substitutionary effects of contracts and boards and the fact that these both play a pivotal role in conflict resolution and thus JV performance (Mohr & Spekman, 1994), a study on the relationship between contract based and board based conflict resolution

mechanisms on the one end and performance outcomes in JVs on the other end is warranted.

This leads to the following research question: To what extent do contract based and board based conflict resolution mechanisms affect JV performance?

Although the research question suggests that conflict resolution mechanisms affect the performance of JVs, we do not suggest that this effect holds true for all situations. In fact, alliance literature has frequently discussed difficulties related to environmental uncertainty

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8 that affect the need for formal governance (Klein et al., 1990; Williamson, 1975; Williamson, 1985; Rindfleisch & Heide, 1997). So it is likely that environmental uncertainty affects the interrelationship between contract and boards. Uncertainty is the difficulty firms have in predicting the future, which comes from incomplete knowledge (Beckman et al., 2004).

Environmental uncertainty consists of factors that are common to the entire economy (Brealey

& Myers, 2003). Because it is systematic, environmental uncertainty cannot be controlled and is independent of what happens at the firm level. Due to environmental uncertainty, abundant contingencies always exist. It is very hard and costly to know and specify all these

contingencies in a contract beforehand, which causes contracts to be incomplete (Anderson &

Dekker, 2005; Williamson, 1975; Williamson, 1985). At the same time, in the presence of uncertainty the objectives of partners would be more frequently misaligned (Klein et al., 1990). The misalignment of these objectives are likely to result in more conflicts. However, due to incomplete contracts, these conflicts cannot be easily resolved. Therefore, in the presence of environmental uncertainty, conflict resolution mechanisms are likely to become more important. This leads to a second research question: To what extent does environmental uncertainty moderate the relationship between different conflict resolution mechanisms and JV performance?

By investigating the value of different kinds of conflict resolution mechanisms that partners adopt in interorganizational collaborations this thesis makes a number of

contributions that are relevant to the alliance governance research as well as the literature on conflict resolution. First of all, little is known about the design of conflict resolution

mechanisms in formal governance and how it affects performance in its own turn. More specifically, the complementary or substitutionary effects of contract based and board based conflict resolution mechanisms has been neglected in research on formal governance. This thesis will aim to fill that research gap by zooming in on these different kinds of conflict

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9 resolution mechanisms within formal contracts and boards and explain their influence on JV performance. Furthermore, while previous research showed that environmental uncertainty influences the extent to which conflicts arise (Klein et al., 1990), it has not yet been

researched if contract based and board based conflict resolution mechanisms are more or less important under different levels of environmental uncertainty. This thesis will therefore aim to research whether the degree of environmental uncertainty could moderate the relationship between different conflict resolution mechanisms and JV performance.

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10 Chapter 2 Literature review

2.1 Background theory

When searching for new competitive advantage, firms oftentimes need new knowledge and/or resources (Harrigan, 1986). Firms can acquire these new knowledge and resources from other firms when collaborating with these firms in an alliance (Link, 2021). Within these alliances, partners share knowledge and resources to achieve a common strategic goal (Link, 2021).

There are various types of alliances. A subset of alliances are JVs. JVs are separate legal entities that are formed by two or more organizations that each have a specific interest in establishing this kind of organizational form (Harrigan, 1986). However, this definition neglects the variation in JVs. This variation includes differences in competitiveness between the partners and the number of business activities the JV is involved in (Brodley, 1982). For example, JVs can be established between competitors, such as the JV between Toyota and General Motors. Nevertheless, JVs can also be established between non-competitors, such as Mercedes and Swatch in developing the Smart car. In addition, JVs can be specified to just one business activity, such as marketing, or to multiple business activities. Hence, all JVs hold different JV specific characteristics (Brodley, 1982; Krishnan et al, 2016). These JV characteristics are known as the transaction specific attributes of that JV. Transaction specific attributes influence the level of behavioral uncertainty (Krishnan et al, 2016). As defined by Williamson (1985, p.57), behavioral uncertainty is the uncertainty that emerges due to the possibility of ‘strategic non-disclosure, disguise, or distortion of information’ by the alliance partners. In other words, behavioral uncertainty is the uncertainty that arises because one of the partners might act opportunistically. The level of behavioral uncertainty will increase with increasing complexity of the transaction specific attributes (Krishnan et al, 2016). Due to the presence of behavioral uncertainty and opportunistic behavior, about 40 to 60% of JVs fail

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11 (Park & Ungson, 2001). To avoid failure, partners will place more emphasis on alliance governance in the presence of high levels of behavioral uncertainty (Williamson, 1985).

Alliance governance is defined by Todeva and Knoke as ‘combinations of legal and social control mechanisms for coordinating and safeguarding the alliance partners’ resource contributions, administrative responsibilities, and division of rewards from their joint activities’ (Todeva & Knoke, 2005, p. 125). Alliance governance can be formal or informal.

Formal governance refers to the legal control mechanisms in the above definition of alliance governance, while informal governance refers to the social control mechanisms (Reuer &

Ariño, 2002; Wu et al., 2017; Macaulay, 1963; Stone, 2013; Wu et al., 2017). Formal

governance consists of binding agreements in which the intents of the contracting parties are codified (Reuer & Ariño, 2002; Wu et al., 2017). Formal governance can be seen as promises that are legally enforceable (Furubotn & Richter, 1977). Informal governance consists of non- contractual relationships that depend on the transacting parties abiding by norms rather than legal contracts (Macaulay, 1963; Stone, 2013; Wu et al., 2017).

As explained above, in the presence of behavioral uncertainty, alliance success is highly dependent on effective alliance governance. Hence, considerable research attention has been devoted to the understanding of effective alliance governance (Osborn & Baughn, 1990;

Parkhe, 1993; Kujala et al., 2020; Gao, 2021). A leading theory in this is the transaction cost theory (TCE) (Williamson, 1975). The core idea underlying this theory is the discriminating alignment hypothesis. Williamson (1998, p.37) defines this hypothesis as follows:

‘Transactions, which differ in their attributes, are aligned with governance structures, which differ in their cost and competence, so as to effect a (mainly) transaction cost economizing result’. In other words, contracting partners should choose the governance structure that minimizes the costs of their transaction/exchange. The characteristics of the governance

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12 structure and the transaction should match with each other. However, this match is not always easy to indicate in advance.

An example of this difficulty are incomplete contracts in contractual governance.

Contractual governance can be defined as ‘the use of an extensive set of terms and clauses specifying mutual rights and obligations with legal and private sanctions for noncompliance’

(Krishnan, 2016). Contracts can be simple for standard exchanges or complex for more complex exchanges. Nevertheless, TCE assumes that even complex contracts are often incomplete (Klein, 1980). This assumption is made on two main grounds (Klein, 1980). First of all, due to behavioral and environmental uncertainty, abundant contingencies always exist.

It is very hard and costly to know and specify all these contingencies in a contract beforehand, which causes contracts to be incomplete (Anderson & Dekker, 2005). Secondly, certain performance aspects are very hard or impossible to measure. For example, there is no way of knowing if a person puts enough effort into his/her tasks. Because of contractual

incompleteness, it may be hard to prove contractual breach to the court even if there are complex contracts.

2.2 Hypotheses development

Research on formal governance has focused on the relation between contract details and performance (Hagedoorn & Hesen, 2007; Li et al., 2010; Luo, 2002; Reuer & Ariño, 2007;

Ryall & Sampson, 2009), but little is known about the design of conflict resolution

mechanisms in these contracts and how it affects performance in its own turn. Organizations have a variety of mechanisms at their disposal in order to increase the survivability of alliances and at the same time overcome conflicts that can potentially occur within the exchange relationship. The absence or presence of conflict resolution mechanisms are likely to affect the performance of the intraorganizational relationships, because it enables partners

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13 to resolve conflicts in a more amicable matter (Mohr & Spekman, 1994). These conflict resolution mechanisms can be designed in contracts as well as boards. However, the extent to which boards and contracts as two different kinds of formal governance mechanisms

substitute or complement each other has been neglected by existing alliance governance literature. Filling this research gap is of particular importance in JVs, since JVs experience high levels of behavioral uncertainty and conflicts, which causes 40 to 60% of JVs to fail (Park & Ungson, 2001).

Therefore, this thesis will investigate to what extent contract based as well as board based conflict resolution mechanisms affect JV performance. Specifically, this thesis focuses on arbitration provisions and veto rights as contract based conflict resolution mechanisms and outside directors as a board based conflict resolution mechanism.

First of all, instead of choosing to resolve conflicts through public legal institutions, i.e. in court, partners can also chose to handle conflicts more privately (Devarakonda et al., 2019). When choosing the latter option, the contracting partners will have to define rules about how to organize conflict resolution in this private setting. These rules are known as arbitration provisions, which can be defined as agreements of two or more parties to submit their claims to one or more persons chosen by them to serve as their arbitrator. These

arbitrators will hear and decide upon controversies of economic consequence arising between the parties (Sturges, 1960). Choosing arbitration provisions over the public legal infrastructure has multiple benefits. First of all, as mentioned before, it is hard to prove contractual breach to the court because of contractual incompleteness (Klein, 1980). Since arbitrators do not have to comply by a general set of rules set by a public legal institution, they can take into account the norms of fair practice and trade custom, which reduces the negative effects of contractual incompleteness (Bernstein, 1996; Domke, 1965). Furthermore, since arbitrators are usually experts in the field, they are more capable than public judges to interpret and resolve the

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14 conflict proposed by the alliance partners. Looking back at the discriminating alignment hypothesis (Williamson, 1998), more benefits can be identified. Because the contracting partners are able to select their own private rules about their conflict resolution governance, they are able to align their governance to their transaction as to minimize the transaction costs. Moreover, arbitration provisions will lower the transaction costs compared to the public legal infrastructure, because the contracting partners do not have to define all possible

contingencies in the contract, but rely on an arbitrator in case conflict arises due to

contingencies. Lastly, arbitration is also found to be faster than the public legal infrastructure, which again lowers the costs (Bonn, 1972; Drahozal, 2008). Because the inclusion of

arbitration provisions in contracts will reduce the negative effects of contractual

incompleteness (Bernstein, 1996; Domke, 1965) and because arbitration provisions reduce transaction costs (Bonn 1972; Drahozal, 2008), a positive effect of arbitration provisions on alliance governance can be expected (Williamson, 1998). Consequently, since effective alliance governance increases JV performance (Hennart, 2008), this study expects that the presence of arbitration provisions will positively affect JV performance.

H1: The inclusion of arbitration provisions in the contractual agreement will have a positive effect on JV performance.

The second contract based conflict resolution mechanism analyzed in this study are veto rights. Veto rights are the rights to block proposed investments, policies or other

decisions (McCarty, 2000). The implementation of veto rights in formal contracts has several benefits for the contracting partners. First of all, veto rights force contracting partners to accommodate each other’s interests. If one of the partners acts opportunistically, the other partner can use his/her veto right to counteract this opportunistic behavior (Geringer &

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15 Hébert, 1989). In addition to this, Reuer and Klijn found that contracts include more extensive veto rights in the presence of high behavioral and environmental uncertainty and thus a higher chance of opportunistic behavior (Reuer & Klijn, 2019). Furthermore, partners are less likely to act opportunistically when veto rights are in place (Tuggle et al., 2010). This is because partners will act under the ‘’shadow of a veto’’. Partners know that if their proposals do not take the interests of the other partner into account, they will likely be vetoed, hence they will not propose them in the first place (Tuggle et al., 2010). In turn, this will reduce conflicts between the partners. As mentioned before, the high failure rates of JVs are a consequence of the presence of behavioral uncertainty and opportunistic behavior in these alliances (Park &

Ungson, 2001). Limiting these behaviors by implementing veto rights, could therefore improve JV performance. Again, more benefits from this conflict resolution mechanism can be found when applying the discriminating alignment hypothesis (Williamson, 1998). By using veto rights, partners can avoid using other, more costly conflict resolution mechanisms, like arbitration or even law suits. Moreover, as mentioned above, because of the ‘’shadow of a veto’’ costly conflicts can even be avoided all together. Therefore, the implementation of veto rights could lower the emergence of conflicts while at the same time limiting the transaction costs. Therefore, a positive effect of veto rights on alliance governance (Williamson, 1998) and in turn on JV performance (Hennart, 2008) can be expected. In conclusion, because veto rights reduce opportunistic behavior and transaction costs, this study expects a positive effect of veto rights on JV performance (Tuggle et al., 2010; Park & Ungson, 2001; Williamson, 1998; Hennart, 2008).

H2: Veto rights will have a positive effect on JV performance.

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16 Lastly, this thesis will investigate outside directors as a board based conflict resolution mechanism. Apart from formal governance in contracts, scholars have identified alternative types of formal governance more recently. For instance, Reuer (2014) and Klijn (2013) have argued that boards as a formal mechanism can potentially substitute or complement the design of contracts as well. Boards can include inside directors and outside directors (Hermalin &

Weisbach, 1988). Inside directors are executive or non-executive directors on the board that where appointed by one of the partners out of the employees of their own parent company. In contrast, outside directors are executive or non-executive directors on the board that were jointly appointed by the partners. Outside directors are not affiliated with any of the parent companies (Reuer et al., 2014). Compared to outside directors, inside directors have a better information position and can decrease information asymmetries. Because of their involvement in both the alliance and one of the parent companies, inside directors can align the strategic intents of the alliance with that of the parent company (Bamford & Ernst, 2003; Kumar &

Seth, 1998). This also means that inside directors are faced with a conflict of interest.

Although they are appointed to act in the best interest of the alliance, they also bear

responsibility to the parent firm (Hewitt, 2005; Singleton, 2017). Since outside directors are not affiliated with the alliance or any of the parent companies, they do not face this conflict of interest. This neutral position provides outside directors with a better position to monitor partner opportunism. Again, because numerous JVs fail due to opportunistic behavior (Park &

Ungson, 2001), limiting these behaviors by including outside directors, could therefore improve JV performance. Furthermore, outside directors could act as neutral arbiters if there is a need for conflict resolution between partners (Hewitt, 2005). Similar to arbitration, TCE arguments can be found as to why outside directors as a conflict resolution mechanism are preferred over the public legal infrastructure. Similar to arbitrators, outside directors are usually experts in the field and are therefore better able to interpret and resolve the proposed

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17 conflicts in the face of contractual incompleteness. Outside directors as a conflict resolution mechanism will also again bare lower transaction costs because of the greater speed and decreased need for defining contingencies in contracts. Therefore, outside directors could resolve conflicts in a more amicable way, while at the same time limiting the transaction costs. Consequently, a positive effect of outside directors on alliance governance

(Williamson, 1998) and in turn on JV performance (Hennart, 2008) can be expected. In conclusion, because outside directors allow for adequate monitoring of partner opportunism and because the inclusion of outside directors lower transaction costs, this study expects a positive effect of outside directors on JV performance (Park & Ungson, 2001; Williamson, 1998; Hennart, 2008).

H3: Outside directors will have a positive effect on JV performance.

Although the first three hypotheses suggest that conflict resolution mechanisms affect the performance of JVs, we do not suggest that this effect holds true for all situations. In fact, the need for conflict resolution mechanisms is dependent on multiple factors. As mentioned before, behavioral uncertainty is one of those factors. However, TCE also identifies another type of uncertainty: Environmental uncertainty (Williamson, 1975; 1985). Uncertainty is the difficulty firms have in predicting the future, which comes from incomplete knowledge (Beckman et al., 2004). Environmental uncertainty consists of factors that are common to the entire economy (Brealey & Myers, 2003). Because it is systematic, environmental uncertainty cannot be controlled and is independent of what happens at the firm level. In other words, environmental uncertainty is the unpredictability of the environment the firm is in (Buvik &

Grønhaug, 2000). According to the transaction cost theory, environmental uncertainty makes it harder to specify, monitor and enforce contracts because the future is uncertain

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18 (Williamson, 1975; 1985). Therefore, abundant contingencies always exist, which causes contracts to be incomplete (Anderson & Dekker, 2005; Williamson, 1975; Williamson, 1985).

Moreover, environmental uncertainty increases the costs of drawing up a contract (Rindfleisch & Heide, 1997). At the same time, environmental uncertainty can allow information asymmetries to develop because one partner might have more information than the other, which provides alliance partners with the chance for opportunism (Klein et al., 1990). As mentioned before, opportunistic behavior results in more conflicts and contributes to the high JV failure rate (Park & Ungson, 2001). However, due to incomplete contracts, these conflicts cannot be easily resolved. Therefore, in the presence of environmental

uncertainty, conflict resolution mechanisms are likely to become more important. Hence, this study expects that under conditions of environmental uncertainty, the value of conflict

resolution mechanisms (i.e. arbitration provisions, veto rights and outside directors) become more profound.

H4a: Environmental uncertainty has a positive moderating effect on the value of arbitration as conflict resolution mechanism.

H4b: Environmental uncertainty has a positive moderating effect on the value of veto rights as conflict resolution mechanism.

H4c: Environmental uncertainty has a positive moderating effect on the value of outside directors as conflict resolution mechanism.

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19 Chapter 3 Methods

3.1 Sample and data

In order to investigate the performance consequences of conflict resolutions mechanisms, the study will adopt a deductive approach (Saunders et al., 2009). Primary data will be collected in order to test the developed hypotheses by means of a self-administered survey. This research strategy is used extensively, given the confidentiality and unavailability of data on JVs and their governance mechanisms in secondary data sources (Kumar et al., 1993). The Thomson Financial’s Security Data Corporation (SDC) database and the alumni database of a European business school were be used to generate an initial list of potential respondents. In prior alliance governance research, both of these databases have been widely used (Ariño, 2003; Colombo et al., 2014).

Internet searches on the JVs and parent companies were used in addition to information provided by the SDC and alumni databases to identify suitable respondents.

These key informants (or the key informants appointed by them) were contacted to complete the survey. Only one key informant was asked to complete the survey to collect primary data.

Using a single key informant is consistent with prior research in this area (e.g., Campbell, 1955; Krishnan et al., 2006; Kumar et al., 1993; Schreiner et al., 2009; White & Lui, 2005).

Due to the high staff turnover of JVs, their small size and the difficult struggle associated with identifying knowledgeable respondents, we did not choose to obtain multiple respondents for each JV, although we do recognize the benefits of this approach. Following Campbell (1955), we constructed a profile for each respondent by adding additional items to the survey. With this approach, we mitigated some of the imperfections of our single respondent approach.

Because of this, we were able to check the responses using JV-specific competence indicators.

Within our respondents, 95% had managed or evaluated the joint venture, or had directly taken part in its negotiation.

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20 Dillman’s (1978) method of survey development and Sauermann and Roach’s (2013) approach to online data collection were used in order to optimize our survey and response rate. Our efforts resulted in the return of 175 returned survey’s out of the 664 that were distributed. Therefore, the response rate was 26.4%.

In order to ensure the findings brought forward in this project, particular emphasis was placed on the internal and external validity of the findings. Internal validity refers to the extent to which the causal relationship being tested is reliable and not influenced by other variables. External validity refers to the extent to which the results from the JVs that were studied, can be applied to the JV population as a whole. By using existing constructs that have been frequently used in the alliance literature as well as the subsequent statistical testing on the reliability of scales, internal validity was ensured. Generalizability of the findings was ensured by investigating the possibility that the sample is not a decent representation of the population (e.g., Saunders, et al., 2009), as well as the extent to which the survey instrument is subject to common method bias (e.g., Dillman, 1978). We tested for this and concluded that our findings cannot be attributed to common method bias.

3.2 Variables and measures

JV performance. To measure JV performance, the perceived satisfaction of the partners towards the performance of the JV was evaluated. Perceived satisfaction towards performance goals is a frequently used tool to measure JV performance (Ariño, 2003).

Respondents were asked to evaluate their satisfaction of attaining different (financial)

performance goals on a five point Likert scale (1= ‘strongly disagree’ to 5=‘strongly agree’).

For this measure, four items from Kale, Dyer and Singh (2002) were derived. By combining these four items, a final variable was created. Cronbach’s alpha equals 0,69.

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21 Independent variables.

Arbitration provisions. The presence of arbitration provisions in formal contracts was measured using one item drawn from Parkhe (1993). Respondents were asked if arbitration clauses were initially put into the formal agreement of the JV at formation.

Number of veto rights. To measure the number of veto rights, we asked respondents if they had veto rights over fourteen decision domains: (1) basic protection changes, (2)

disbursement and issuance, (3) company exits, (4) issue of debt, (5) change of business, (6) selling assets, (7) change of competitive ability, (8) investment, (9) buying assets, (10) hiring management, (11) changes in compensation, (12) inside transactions, (13) monitoring issues, and (14) joint venture exit. We relied on Hewitt’s (2005) categorization of veto rights for these items. A count measure of the number of veto rights, ranging from zero to fourteen, was created by adding all these items together.

Outside directors. To measure the number of outside directors appointed on JV boards, respondents were asked what the number of executive independent board members appointed by the different parties involved was currently. In addition, respondents were asked what the number of non-executive board members appointed by the different parties involved was currently. By combining these two items, the final variable of was created.

Environmental uncertainty. To measure environmental uncertainty, respondents were asked to indicate the predictability of five external factors on a five point Likert scale: (1) government policies and regulations, (2) customer demand, (3) supply of raw materials and equipment, (4) competitive climate, and (5) technological trends. These items were derived from Kumar and Seth (1998). These scores were reverse coded (i.e., ui, i = 1–5) to indicate uncertainty instead of certainty. In addition, these items were weighted by asking respondents to indicate the importance of each of the five factors in determining the success of the JV by allocating 100 points among the five factors (i.e., wi, i = 1–5). This was done because the

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22 importance of each aspect might differ for specific JVs. By combining the individual

uncertainty scores and their weights, the final variable was created using the following formula: Environmental uncertainty = 1

1005i=1𝑤𝑖, 𝑢𝑖

Control variables.

Number of partners. As the number of partners increases, potential conflicts will rise as well (Gong et al., 2007). Therefore, the number of partners could have an effect on JV performance and the effect of conflict resolution mechanisms on JV performance. This study controls for the number of partners by asking respondents to indicate how many firms are involved in the JV including their own firm. Due to significant skewness, this variable was log transformed.

Market overlap. Market overlap facilitates common understanding, but it can also create competition and tension between partners (Luo & Deng, 2009; Yang et al., 2015), which can result in more conflicts and a decrease in JV performance. To measure the market overlap, three Likert-type items were multiplied measuring the degree to which the firms operate in similar (1) product markets, (2) geographic markets, and (3) customer segments.

These items were derived from Oxley and Sampson (2004).

Functional scope. Functional differences have a negative impact on JV performance as their existence reduces the efficiency of the JV operation in a number of ways (Mohr & Puck, 2005). One of these ways is that a broad functional scope can result in misunderstandings and conflicts because of the differences between the parent firms (Mohr & Puck, 2005). To measure functional scope, we followed existing studies in the alliance governance literature that have adopted a measure for the functional scope of collaborations (Oxley & Sampson, 2004; Kalaignaman et al., 2007; Li et al., 2012). Respondents were asked to indicate which of the following functional activities were performed in the JV: (1) inbound logistics, (2)

operations, (3) outbound logistics, (4) marketing and sales, (5) service, (6) procurement, (7)

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23 technology development, (8) human resource management, and (9) infrastructure. By adding these nine items together, the final variable was created.

Prior ties. The existence of prior ties between JV partners leads to learning about each other’s anticipated behavioral patterns. In turn, this can help the partners to predict when self- interested behavior may occur and to know how to interact with the partner during the

coordination and execution of the alliance tasks to minimize conflict (Lioukas & Reuer, 2015). The presence of prior ties between the partners in the JV was measured using one item drawn from Parkhe (1993). To measure the prior ties, respondents were asked how many prior collaborations (e.g. joint ventures, non-equity alliances, minority partnerships) their parent firm has formed with the partner(s) in the past. Since this variable was exposed to significant positive skewness, the log of one plus the number of prior ties was used for analyses.

Contractual complexity. When contractual complexity is high, there is less room for opportunistic behavior, which reduces the level of conflicts (You et al., 2019). To measure contractual complexity, Parkhe’s (1993) measure of contractual complexity was used once again. However, the item for arbitration clauses was excluded, since it was already used to measure the independent variable arbitration provisions. For the remaining items, respondents were asked to indicate which of the following types of provisions were instituted in their JV contract: (1) periodic written reports of all relevant transactions, (2) prompt written notice of any departures from the agreement, (3) the right to examine and audit all relevant records through a firm of CPAs, (4) designation of certain information as proprietary and subject to confidentiality provisions of the contract, (5) non-use of proprietary information even after termination of agreement, (6) termination of agreement, and (7) lawsuit provisions. Using these provisions, ordered as listed above, a weighted measure of contractual complexity was created using the following formula: Contractual complexity = 1

368𝑖=1𝐷𝑖

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24 In this formula, Di equals i if the ith provision was employed and zero if the ith provision was not employed (Parkhe, 1993). In other words, Di equals one if the first provision was

employed, zero if not; two if the second provision was employed, zero if not; and so on.

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25 Chapter 4 Results

4.1 Descriptive statistics and correlation matrix

In table 1 an overview of the descriptive statistics of the variables used in this study is

provided. This table includes the mean and standard deviations of the dependent, independent and control variables. Moreover, a correlation analysis was conducted to identify correlations between the variables used in this study. In addition, the correlation matrix was used to test for multicollinearity. Since all Pearson’s correlations fall between the range of -.90 – 0.90, there is no indication of multicollinearity (Brace, Kemp, & Snelgar, 2006).

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26 Table 1: Descriptive Statistics and Correlation Matrixa

aN = 150

† p < 0.10; * p < 0.05; ** p < 0.01; *** p < 0.001

Variables Mean S.D. 1 2 3 4 5 6 7 8 9 10

1. IJV performance 13.713 2.964 1.000

2. Arbitration provisions 0.549 0.499 -0.064 1.000

3. Number of veto rights 3.262 5.256 -0.098 0.269** 1.000

4. Outside directors 0.530 1.480 -0.093 -0.082 -0.027 1.000 5. Environmental

uncertainty

259.911 89.363 -0.431*** -0.077 0.112 -0.007 1.000

6. Number of partners 0.865 0.370 0.019 0.068 -0.043 0.031 -0.161† 1.000

7. Market overlap 28.503 34.407 -0.170† 0.102 0.161† 0.041 0.122 -0.066 1.000

8. Scope 4.931 2.824 0.104 0.103 0.141† 0.041 0.029 -0.015 -0.036 1.000

9. Prior ties 0.479 0.824 0.139 -0.083 -0.131 -0.018 -0.095 0.348*** -0.129 -0.019 1.000

10. Contractual complexity 18.322 11.756 0.064 0.725*** 0.303 -0.062 -0.082 0.052 0.105 0.335*** -0.092 1.000

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27 4.2 Regression analyses

To test the proposed hypotheses, various regression analyses have been conducted. The direct effect of the three conflict resolution mechanisms (e.g. arbitration provisions, veto rights and outside directors) on JV performance as well as the moderating effect of environmental uncertainty on these relationships has been analyzed. The results from the regression analyses are demonstrated in Table 2. In total, six models were conducted. The first model includes the five control variables only (e.g. the number of partners, market overlap, functional scope, prior ties and contractual complexity). In the second model, the independent variables (e.g.

arbitration provisions, veto rights, outside directors and environmental uncertainty) are added to the first model. In the third model, only the independent variables arbitration provisions and environmental uncertainty and their interaction effect are added to the control variables.

In the fourth model, only the independent variables number of veto rights and environmental uncertainty and their interaction effect are added to the control variables. In the fifth model, only the independent variables outside directors and environmental uncertainty and their interaction effect are added to the control variables. Lastly, in the sixth model all variables and interaction effects are tested simultaneously.

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28 Table 2: Determinants of JV Performancea

a𝑁 = 150

† p < 0.10; * p < 0.05; ** p < 0.01; *** p < 0.001

Variables I II III IV V VI

Constant 13.265***

(0.701)

17.571***

(1.017)

15.886***

(1.180)

16.250***

(1.120)

18.276***

(1.068)

17.281***

(1.393)

Number of partners 0.396 -0.808 0.001 0.003 -1.067 -0.988

(0.618) (0.543) (0.576) (0.561) (0.547) (0.560)

Market overlap -0.016* -0.008 -0.011 -0.011 -0.010 -0.085

(0.007) (0.006) (0.006) (0.006) (0.006) (0.006)

Scope 0.041 0.089 0.064 0.080 0.116 0.098

(0.086) (0.084) (0.088) (0.084) (0.083) (0.086)

Prior ties 0.255 0.399 0.203 0.278 0.438 0.410

(0.276) (0.245) (0.251) (0.256) (0.254) (0.255) Contractual complexity 0.015 0.048 0.032 0.013 0.001 0.046

(0.020) (0.029) (0.029) (0.020) (0.019) (0.029)

Arbitration provisions -1.279* 0.792 -0.489

(0.628) (1.481) (1.634)

Number of veto rights -0.019 0.096 0.099

(0.041) (0.150) (0.156)

Number of outside directors -0.196 -1.120* -1.157*

(0.124) (0.445) (0.450)

Environmental uncertainty -0.014*** -0.009** -0.011** -0.016*** -0.012**

(0.003) (0.003) (0.003) (0.003) (0.004) Environmental uncertainty *

Arbitration Provisions

-0.006 (0.005)

-0.003 (0.006) Environmental uncertainty *

Number of veto rights

-0.001 (0.001)

-0.000 (0.001)

Environmental uncertainty * Number of outside directors

0.003*

(0.002)

0.004*

(0.002)

F 2.390 5.470 5.630 5.130 5.850 4.790

P 0.040 0.000 0.000 0.000 0.000 0.000

R2 0.053 0.259 0.209 0.202 0.250 0.279

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29 In the first model, the control variables of this study (e.g. the number of partners, market overlap, functional scope, prior ties and contractual complexity) are included in the regression analysis to determine if there are direct relationships between these control variables and the dependent variable JV performance. The first model explains 5% of the variance in JV performance (R2 = 0.053). Furthermore, the model demonstrates that only market overlap has a significant negative effect on JV performance (β = -0.016, p < 0.05).

This indicates that higher market overlap will result in a decrease in JV performance.

In the second model, the independent variables (e.g. arbitration provisions, veto rights, outside directors and environmental uncertainty) are added to the control variables. This model demonstrates the direct relationships between the independent variables and the

dependent variable JV performance, while controlling for the control variables. The first three hypotheses state that arbitration provisions (1), veto rights (2) and outside directors (3) will have a positive effect on JV performance. Only the conflict resolution mechanism arbitration provisions demonstrates a significant direct relationship with JV performance (β = -1.279, p <

0.05). However, since this relationship is negative, this result does not correspond with hypothesis 1. Therefore, all hypothesis 1, 2 and 3 are rejected. Nevertheless, environmental uncertainty demonstrates a direct negative relationship with JV performance (β = -0.014, p <

0.001). While the control variable market overlap demonstrated a significant result in the first model, it does not demonstrate a significant result in the second model. Furthermore, the control variable contractual complexity demonstrates a novel significant positive relationship in the second model (β = 0.048, p < 0.10).

In the third model, the moderating effect of environmental uncertainty is analyzed on the relationship between arbitration provisions and JV performance to test hypothesis 4a:

Environmental uncertainty has a positive moderating effect on the value of arbitration as conflict resolution mechanism. In order to analyze this effect, the variable arbitration

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30 provisions as well as the moderating variable environmental uncertainty are standardized. To strengthen the external validity, the control variables are included as well. The results of the third model demonstrate that there is no significant moderating effect of environmental uncertainty on the relationship between arbitration provisions and JV performance. Therefore, hypothesis 4a is rejected. Just like in the first model, only the control variable market overlap shows a negative significant result (β = -0.011, p < 0.10). Again, environmental uncertainty shows a direct negative significant effect as well (β = -0.009, p < 0.01).

In the fourth model, the moderating effect of environmental uncertainty is analyzed on the relationship between veto rights and JV performance to test hypothesis 4b: Environmental uncertainty has a positive moderating effect on the value of veto rights as conflict resolution mechanism. Again, both variables are standardized and the control variables are included.

The results of the fourth model demonstrate that there is no significant moderating effect of environmental uncertainty on the relationship between veto rights and JV performance.

Therefore, hypothesis 4b is rejected. Equally to the third model, from the control variables only market overlap shows a significant negative result (β = -0.011, p < 0.10) and

environmental uncertainty shows a direct negative significant effect as well (β = -0.011, p <

0.01).

In the fifth model, the moderating effect of environmental uncertainty is analyzed on the relationship between outside directors and JV performance to test hypothesis 4c:

Environmental uncertainty has a positive moderating effect on the value of outside directors as conflict resolution mechanism. Again, both variables are standardized and the control variables are included. The results of the fifth model demonstrate that there is a significant positive moderating effect of environmental uncertainty on the relationship between outside directors and JV performance (β = 0.003, p < 0.05). Therefore, hypothesis 4c is confirmed.

From the control variables the number of partners (β = -1.076, p < 0.10) and prior ties (β =

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31 0.438, p < 0.10) show a significant result. Furthermore, the number of outside directors (β = - 1.120, p < 0.05) as well as environmental uncertainty (β = -0.016, p < 0.001) show a direct negative significant effect.

In the sixth and last model, all control variables, independent variables and interaction terms are included. From the control variables, only the number of partners demonstrates a significant negative result (β = -0.988, p < 0.10). From the independent variables the number of outside directors (β = -1.157, p < 0.05) and environmental uncertainty (β = -0.012, p <

0.01) demonstrate significant negative results. Lastly, from the interaction terms, only the number of outside directors is significantly and positively moderated by environmental uncertainty (β = 0.004, p < 0.05). The sixth model explains 28% of the variance in JV performance (R2 = 0.279), which is the highest percentage of all six models.

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32 Chapter 5 Discussion and conclusion

5.1 Contributions and implications

By investigating the value of different kinds of conflict resolution mechanisms that partners adopt in JVs this study makes a number of contributions that are relevant to the alliance governance research as well as the literature on conflict resolution.

First of all, little is known about the design of conflict resolution mechanisms in formal governance and how it affects performance in its own turn. More specifically, the complementary or substitutionary effects of contract based and board based conflict resolution mechanisms has been neglected in research on formal governance. This study aimed to fill this research gap, but did not find a significant positive relationship between any of the analyzed conflict resolution mechanisms (i.e. arbitration provisions, veto rights and outside directors) on JV performance. Therefore, their expected effect on JV performance and the possible direct complementary or substitutionary effects of contract based and board based conflict resolution mechanisms could not be ascertained by this study. These findings are contradicting existing literature, since literature on the effect of arbitration provisions on JV performance suggests that the inclusion of arbitration provisions in contracts will reduce the negative effects of contractual incompleteness (Bernstein, 1996; Domke, 1965). Furthermore, research by Bonn (1972) and Drahozal (2008) suggests that arbitration provisions reduce transaction costs. According to TCE, arbitration provisions will therefore have a positive effect on alliance governance (Williamson, 1998). Consequently, since effective alliance governance increases JV performance (Hennart, 2008), a positive effect of arbitration provisions on JV performance was expected. Surprisingly, this study demonstrates the opposite result, suggesting that the presence of arbitration provisions lead to lower JV performance. Furthermore, current literature suggests that veto rights reduce opportunistic behavior (Tuggle et al., 2010) and transaction costs (Williamson, 1998). In turn, scholars

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33 suggest this to positively affect JV performance (Park & Ungson, 2001; Hennart, 2008).

However, this relationship between veto rights and JV performance cannot be ascertained in this study. Lastly, literature on outside directors suggests that outside directors are in a better position than inside directors to monitor opportunistic behavior since, in contrast to inside directors, outside directors are not affiliated with the alliance or any of the parent companies and do therefore not face a conflict of interest (Hewitt, 2005; Singleton, 2017). Since the high failure rate of JVs is due to opportunistic behavior (Park & Ungson, 2001), limiting these behaviors by including outside directors, was expected to improve JV performance.

Moreover, literature suggests that the inclusion of outside directors as a conflict resolution mechanism will also again lower the transaction costs because of the greater speed and decreased need for defining contingencies in contracts. According to TCE, outside directors will therefore have a positive effect on alliance governance (Williamson, 1998).

Consequently, since effective alliance governance increases JV performance (Hennart, 2008), a positive effect of outside directors on JV performance was expected. However, a positive relationship between outside directors and JV performance cannot be ascertained in this study.

Since the findings of this study are contradicting existing literature on conflict resolution mechanisms and JV performance, more research investigating this relationship is needed to either confirm or deny the findings of this study.

A second contribution that is relevant to the alliance governance research as well as the literature on conflict resolution is made by investigating the possible moderating effect of environmental uncertainty on the relationship between the different conflict resolution mechanisms and JV performance. Although previous research showed that environmental uncertainty influences the extent to which conflicts arise (Klein et al., 1990), it has not yet been researched if contract based and board based conflict resolution mechanisms are more or less important under different levels of environmental uncertainty. This study therefore aimed

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34 to fill this research gap by investigating whether the degree of environmental uncertainty could moderate the relationship between different conflict resolution mechanisms and JV performance. Interestingly, this study found that while the effects contract based conflict resolution mechanisms (i.e. arbitration provisions and veto rights) on JV performance do not become more profound under conditions of environmental uncertainty, the effect of the analyzed board based conflict resolution mechanism (i.e. outside directors) on JV

performance does become more profound under conditions of environmental uncertainty.

Therefore, this study found that under conditions of environmental uncertainty, board based conflict resolution mechanisms could complement or substitute contract based conflict resolution mechanisms in JVs. However, since the initial effect of this board based conflict resolution mechanism on JV performance is negative, this means that under conditions of environmental uncertainty, the negative effects of board based conflict resolution mechanisms on JV performance become even more negative.

Apart from the theoretical contributions explained above, this study also provides practical implications. Joint ventures experience high levels of behavioral uncertainty and opportunistic behavior, which causes 40 to 60% of JVs to fail (Park & Ungson, 2001). To guard a JV from this high failure rate, effective alliance governance is of major importance (Hagedoorn & Hesen, 2007; Li et al., 2010; Luo, 2002; Reuer & Ariño, 2007; Ryall &

Sampson, 2009). The aspect of conflict resolution mechanisms is mostly neglected within alliance governance research, although Mohr and Spekman (1994) argue it is a primary characteristic of effective alliance governance. However, the positive effect of the three conflict resolution mechanisms that were analyzed (e.g. arbitration provisions, veto rights and outside directors) on JV performance could not be ascertained in this study. In fact, arbitration provisions even demonstrated a negative effect on JV performance. Moreover, outside

directors also demonstrated a negative effect on JV performance when taking into account the

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35 effect of environmental uncertainty. The findings of this study also demonstrated that the negative effect of outside directors on JV performance is moderated by environmental uncertainty. Therefore, the practical implication of this study for JV partners is to be mindful when incorporating conflict resolution mechanisms into their alliance governance, since they can have a negative effect on the performance of the JV. Moreover, JV partners should be extra mindful of incorporating outside directors under circumstances of environmental uncertainty as under these conditions the negative effect of outside directors on JV performance becomes more profound.

5.2 Limitations and future research

Although this study has made important contributions to both theory and practice, it also contains some limitations. First of all, due to the high staff turnover of JVs, their small size and the difficult struggle associated with identifying knowledgeable respondents, we chose to gather data using a key informant approach instead of obtaining multiple respondents for each JV. Although we do recognize the benefits of obtaining multiple respondents (e.g. secondary sources, more confidential nature of information, etc.), the key informant approach is widely used in alliance literature (Devarakonda et al., 2019; Krishnan et al., 2006; White & Lui, 2005). We mitigated the imperfections of using a key informant approach by following Campbell (1955) in constructing a profile for each respondent by adding additional items to the survey. Nevertheless, in future studies it might valuable to include multiple and more diverse respondents in order to obtain a better insight of the JVs.

Secondly, the majority of the JVs included in this study have at least one Dutch partner. This has a negatively affects the external validity of this study which means that the findings of this study are more difficult to generalize. Therefore, more research including JVs

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36 from more diverse countries is needed to confirm the generalizability of the findings in this study.

Lastly, since the findings of this study were contradicting existing literature on conflict resolution mechanisms and JV performance, more research investigating this relationship is needed to either confirm or deny the findings of this study. Furthermore, this study focused on arbitration provisions, veto rights and outside directors as a conflict resolution mechanism only. More research is needed to investigate the effect of other conflict resolution mechanisms on JV performance.

5.3 Conclusion

In this study the effect of two contract based conflict resolution mechanisms (e.g. arbitration provisions and veto rights) and one board based conflict resolution mechanism (e.g. outside directors) on JV performance has been researched. Furthermore, the moderating effect of environmental uncertainty on these relationships was researched as well. This study contributes to theory as well as practice by filling the existing research gap of conflict resolution mechanisms in alliance governance research. Since JVs experience high levels of behavioral uncertainty and opportunistic behavior, 40 to 60% of JVs fail (Park & Ungson, 2001). To reduce the chance of failure, effective alliance governance is of major importance and the design of conflict resolution mechanisms could play a pivotal role in this (Mohr &

Spekman, 1994). More specifically, the complementary or substitutionary effects of contract based and board based conflict resolution mechanisms has been neglected in existing

literature on formal governance. Moreover, in the presence of uncertainty the objectives of partners are more frequently misaligned (Klein et al., 1990), which will likely result in more conflicts. Therefore environmental uncertainty can affect the performance consequences of certain conflict resolution mechanisms. Nevertheless, this effect has not yet been researched

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37 yet. Following existing literature, a positive effect of the researched conflict resolution

mechanisms on JV performance and a positive moderating effect of environmental

uncertainty on these relationships was expected. However, a positive effect of veto rights on JV performance could not be ascertained, while arbitration provisions and outside directors even demonstrated a negative effect on JV performance. Lastly, a positive moderating effect of environmental uncertainty on the relationship between the conflict resolution mechanisms and JV performance was found for outside directors only.

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