A pricing-error rule on share distribution in equity joint ventures: The Bayesian approach

Shih Fen S. Chen, Hubert Pun, Liang Lucas Wang

Research output: Journal PublicationArticlepeer-review

1 Citation (Scopus)

Abstract

Equity joint ventures (EJVs) are a popular governance mode of inter-firm cooperation that has attracted substantial research attention. The literature, however, still lacks a precise rule for the parents to follow in splitting the equity shares of an EJV, although share distribution is critical to almost all aspects of the co-ownership relationship. In this study, we fill this literature gap by taking the Bayesian approach to draw a pricing-error rule on share distribution in EJVs. More specifically, we contend that equity participation by two firms in an EJV allows profit sharing to correct for the errors that they might commit in pricing their inputs to the EJV. For profit sharing to fully nullify such pricing errors, the shares of an EJV must be split between the parent firms in a percentage combination that matches the relative sizes of their pricing errors. Because pricing errors are observable only afterward, share distribution in EJVs resembles a Bayesian process, in which the partners keep updating their estimates on pricing errors to adjust share distribution to a percentage combination that could best nullify their pricing errors. Thus, the eventual outcome of share adjustment is EJV buyout, in that the partner whose pricing errors remain substantial buys out the shares of the other whose pricing errors have become tolerable.

Original languageEnglish
Pages (from-to)1172-1184
Number of pages13
JournalManagerial and Decision Economics
Volume38
Issue number8
DOIs
Publication statusPublished - Dec 2017
Externally publishedYes

ASJC Scopus subject areas

  • Business and International Management
  • Strategy and Management
  • Management Science and Operations Research
  • Management of Technology and Innovation

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