William H. Meckling’s research while affiliated with University of Rochester and other places

This book brings together classic writings on the economic nature and organization of firms, including works by Ronald Coase, Oliver Williamson, and Michael Jensen and William Meckling, as well as more recent contributions by Paul Milgrom, Bengt Holmstrom, John Roberts, Oliver Hart, Luigi Zingales, and others. Part I explores the general theme of the firm's nature and place in the market economy; Part II addresses the question of which transactions are integrated under a firm's roof and what limits the growth of firms; Part III examines employer-employee relations and the motivation of labor; and Part IV studies the firm's organization from the standpoint of financing and the relationship between owners and managers. The volume also includes a consolidated bibliography of sources cited by these authors and an introductory essay by the editors that surveys the new institutional economics of the firm and issues raised in the anthology.

This classic by the formulators of agency cost theory discusses five common divisional performance measurement methods—cost centers, revenue centers, profit centers, investment centers, and expense centers—while providing a theory that attempts to explain when each of these methods is likely to be the most efficient. The central insight of the theory is that each method offers a different way of aligning decision-making authority with valuable “specific knowledge” inside the organization. The theory suggests that cost and revenue centers work best in cases where headquarters has good information about cost and demand functions, product quality, and optimal output mix. Profit centers—defined as business units whose managers have responsibility for overall profits, but not the authority to make major capital spending decisions—tend to supplant revenue and cost centers when line managers have a significant informational advantage over headquarters and when there are few interdependencies (or “synergies”) between divisions. Investment centers—profit centers in which unit managers are allowed to make major investment decisions—tend to prevail when the activity is capital-intensive and when it is difficult for headquarters to identify the value-maximizing investment strategy. In evaluating the performance of profit centers, rate-of-return measures like ROA are likely to be effective when unit managers do not have major influence over the level of new investment. But, in the case of investment centers, Economic Value Added, or EVA, is likely to be the most effective single-period measure because it is designed to encourage only value-increasing investment decisions.

This paper integrates elements from the theory of agency, the theory of property rights and the theory of fi nance to develop a theory of the ownership structure of the fi rm. We defi ne the concept of agency costs, show its relationship to the "separation and control" issue, investigate the nature of the agency costs generated by the existence of debt and outside equity, demon strate who bears these costs and why, and investigate the Pareto optimality of their existence. We also provide a new defi nition of the fi rm, and show how our analysis of the factors influencing the creation and issuance of debt and equity claims is a special case of the supply side of the completeness of markets problem.

Introduction and SummaryThe Agency Costs of Outside EquitySome Unanswered Questions Regarding the Existence of the Corporate FormThe Agency Costs of DebtA Theory of the Corporate Ownership StructureConclusions

We develop a framework that is applicable to all freedom of expression disputes. Our framework is based on the meaning of freedom which is based on the meaning of scarcity, and which, in turn, is based on the existence of physical incompatibilities. To maximize freedom, one must differentiate between scarce and non-scarce rights. Scarce rights can not be granted to everyone because of natural limitations caused by physical incompatibilities. If one person burns a tree for warmth, another cannot use the tree to build a house. Conflicts caused by such physical incompatibilities are resolved peacefully by giving exclusionary rights in the physical use of the tree to a single, private party. These are scarce rights because more than one person cannot use the tree when there are physical incompatibilities. Non-scarce rights, in contrast, can be granted to everyone. The contents of ones speech, for example, in no way limits what other people can say or do. To maximize freedom, each...

In Coordination, Control, and the Management of Organizations (CCMO) we periodically hand out an abbreviated set of course notes to students that follow reasonably closely the class schedule and discussions in the first half of the course. The notes are designed to help students organize the main points of the class discussions and their own notes, and are not intended to be a stand-alone text (although that project is underway). These notes were first created in the mid-1970s by Jensen and Meckling for use in their CCMO course at the Rochester's Simon School of Business. Three faculty at Rochester involved in the course have published a written and somewhat supplemented version of the Course Notes as they were left in 1989 on Jensen's departure from Rochester. The notes have continued to evolve over time with the course and with the contributions of fellow teaching faculty George P. Baker and Karen H. Wruck.We hand out the notes in two parts after we have completed discussion of the material. We have found that class discussions and learning are vastly improved if the notes are available to the students only after they have read and discussed the material. We ask students not to use notes from past semesters, to treat the notes in the same way they would treat information from fellow students in an earlier class or in an exam and not to distribute the notes to others. -----------The CCMO materials are presented in four electronic documents entitled as follows (you can go directly to each document and its abstract by clicking on the title below):1. Organizations and Markets: History and Development of the Course and the Field, by Michael C. Jensen, George P. Baker, Carliss Y. Baldwin, and Karen H. Wruck, Dec. 10, 1997 (forthcoming in "The Intellectual Venture Capitalist: John H. McArthur and the Work of the Harvard Business School," 1980-1995, Thomas K. McCraw and Jeffrey L. Cruickshank, eds, (Harvard Business School Press, 1998)).2. This document -- Coordination, Control, and the Management of Organizations: Course Notes, by Michael C. Jensen and William H. Meckling, with contributions from George P. Baker and Karen H. Wruck, April 20, 1998, Harvard Business School Working Paper.3. Coordination, Control, and the Management of Organizations: Course Content and Materials, by Michael C. Jensen and Karen H. Wruck, April 20, 1998, unpublished manuscript, Harvard Business School.4. Coordination, Control, and the Management of Organizations: Practice Questions, by Michael C. Jensen, William H. Meckling, George P. Baker, and Karen H. Wruck, with contributions from Carliss Y. Baldwin, and Malcolm S. Salter, April 20, 1998, unpublished manuscript, Harvard Business School. Return to main CCMO abstract.

With the possible exception of love, probably no word in the English language generates a more sympathetic response than the word freedom. Everyone favors freedom. We prize it not only for ourselves, but also as a characteristic of our society. Most of us, however, have given little thought to what we mean by freedom. We use it to describe virtually everything we believe is good or right. Freedom is a hurrah word. Advocates of all persuasions characterize their programs as enhancing freedom. In the extreme, we find spokesmen for the most tyrannical states boldly claiming that theirs is true freedom because it provides freedom from want, a logic equivalent to arguing that prisoners are free as long as they are well fed and sheltered.Any unambiguous conception of freedom should distinguish between choices such as 1) Give me $20 and I'll give you a sirloin steak, and 2) Give me your wallet or I'll shoot you with the gun I have pointed at your midsection. These transactions both give you a choice. One might be tempted to say that the second is inconsistent with freedom because the choice I'm giving you makes you worse off. But there are many transactions that seem perfectly consistent with, and even required by, freedom that have this characteristic. Consider the offer I make you on the expiration of your lease of my property: Give me a monthly rental of 10% more than our previous arrangement or move out.

Capitalism is far and away the most effective system ever invented for peacefully organizing cooperation among large numbers of human beings. The success enjoyed by capitalistic economies during the last 70 years is in sharp contrast to the dramatic and widespread failure of communist and socialist centrally planned closed economies.The economies (primarily in the West) organized more or less as capitalistic have created enormous wealth and living standards for their members, while virtually all others have resulted in impoverishment. And it is becoming clear that they have accomplished this with much less damage to the environment than non-capitalist societies. Moreover, the difference is not merely one of resource endowments. The current move toward more capitalist, open societies is drastically changing the world, and promises to go on for several generations. Because capitalism is widely misunderstood, it is paradoxically almost always under attack by those who would like to see societies organized in different ways. Private property capitalist systems are distinguished by the fact that most decision rights are assigned to private individuals or organizations. In contrast, socialist or communist systems assign most decision rights to the state or the governing party. This chapter identifies the essence of capitalism, and demonstrates its remarkably close relationship to the Jensen-Meckling concept of freedom explained in the first three chapters. To do this I first give a brief definition (without much discussion) of alienable decision rights, which are the foundations of ownership and capitalism. Then I discuss the role of knowledge in society, the essential nature of capitalism and what makes it work.

Our purpose in this paper is to examine divisional performance measurement methods and related aspects of the rules of the game that govern the behavior of managers. Performance measurement is one of the critical factors that determine how individuals in an organization behave. It is one aspect of what we call the organizational rules of the game, which consist of (1) the performance measurement and evaluation system, (2) the reward and punishment system, and (3) the system for partitioning decision rights among individuals in an organization.Performance measurement includes the objective and subjective assessments of the performance of both individuals and subunits of an organization such as divisions or departments. Performance evaluation is the process of attaching value weights to various measures of performance to represent the importance of achievement on each dimension.The reward and punishment system relates the rewards granted to individuals to results measured by the performance measurement system. Rewards and punishments include nonmonetary factors such as honor, attention, and rank, as well as monetary factors such as salary changes and bonuses.We analyze the peculiar characteristics of common divisional performance measures associated with what are often called cost centers, revenue centers, profit centers, investment centers and EVA and expense centers. We analyze the counterproductive incentives induced by these various performance measures and the conditions under which each of them could be sensibly used in an organization.